What Are Long-Term Investments?
Long-term investments refer to the assets that people purchase with the purpose of holding them for a pretty long time—usually five years and above.1 By contrast, trading is about making fast profits by leveraging short-term price changes, while long-term investing is about increasing one’s net worth.2 This approach is able to survive market swings because it uses time as a friend and eventually, it will reward the investor with a bigger sum of money.3
How It Works: The “Snowball Effect”
Compound interest is the major source of power in long-term investing.4 It is when the investment returns start to generate their own returns.5
Simple Interest: You make money only on the first deposit.6
Compound Interest: You make money on your original deposit as well as on the profit you have already made.7
Over a span of 10, 20, or 30 years it can be illustrated as an exponential curve in which one’s money not only grows but grows faster the longer it is left untouched.8
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Common Long-Term Investment Vehicles
Long-term investors are usually interrelated with a couple of asset types as a basis to build their portfolios.9
| Asset Class | Role in Portfolio | Risk Level |
|---|---|---|
| Stocks (Equities) | Growth. Basically, one of the oldest methods to profit from business performance is to own shares of those businesses. Historically these have been the major winners in terms of returns over longer periods of time, however the downside is a high level of volatility in the short term. | High |
| Bonds (Fixed Income) | Stability. Financial instruments that represent debt money lent to the public or private sector with a promise for a fixed return through the payment of interest. They are the safety net of the portfolio when the stock market is declining. | Low to Medium |
| Real Estate | Tangible Wealth. Property that is capable of providing the owner with a steady stream of income through leasing and at the same time value appreciation. | Medium to High |
| ETFs & Mutual Funds | Diversification. Portfolios consisting of hundreds of stocks or bonds that are combined into one package. By doing so, the risk of complete loss due to the failure of a single company is mitigated. | Variable |
Key Strategies for Success
1. Diversification
“Don’t put all your eggs in one basket.” The risk is lessened through the exposure to different industries (tech, healthcare, energy), as well as, different regions (US, Europe, Emerging Markets) in a well-balanced long-term portfolio.10
2. Time in the Market > Timing the Market
It is basically impossible to accurately predict the time when the market will crash or soar.12 One of the ways that long-term market players deal with this is by not reacting to the news on a daily basis.13 By looking at the past 14 years, one can see that although there are frequent downturns, the general trend of the markets has always been upward over the decades.14
3. Dollar-Cost Averaging (DCA)
It is a fixed amount that gets invested regularly (e.g. $500 every month) and not as a lump sum that you try to time the market with and invest at the “perfect” moment.15 In case prices are high, your $500 will buy fewer shares.16 In case prices are low, your $500 will buy more shares.17 End result: You cut your average share purchase cost gradually without incurring any stress.18
The Trade-Off: Liquidity
Long-term investing’s main “expense” is liquidity. Funds that are invested in a 401(k), a house, or a 10-year bond cannot be used freely. If you find yourself in need of cash due to an emergency tomorrow, these investments will be hard (or costly) to liquidate in a short period of time. Hence, it is prudent to always maintain a separate Emergency Fund (in the form of cash savings) prior to starting long-term investing.19
Long-term investments are financial assets that an investor intends to hold for an extended period, typically several years or more. These investments often have the potential to deliver higher returns over time, allowing investors to build wealth and achieve their financial goals. In this entry, we will explore the key characteristics of long-term investments, their advantages, and some examples of popular long-term investment options
(see more details here Robo Markets).
Characteristics of Long-Term Investments
- Time Horizon: Long-term investments typically have a holding period of several years or even decades. This extended time frame allows investors to benefit from the high capacity of compounding, which can significantly enhance the growth of their investments.
- Risk Tolerance: Investors with a long-term investment horizon generally have a higher risk tolerance. This is because they have longer time period to recover from potential short-term losses and can ride out market volatility in pursuit of higher returns.
- Focus on Fundamentals: Long-term investors prioritize the underlying fundamentals of an investment, such as a company’s financial performance and growth prospects, over short-term market fluctuations. This approach helps them identify quality assets that can deliver sustainable returns over time.
Advantages of Long-Term Investments
- Potential for Higher Returns: Long-term investments often offer the potential for higher returns compared to short-term investments, as they allow investors to capitalize on the compounding effect of their returns over time.
- Reduced Impact of Market Volatility: By maintaining a long-term perspective, investors can weather short-term market fluctuations and focus on the underlying value of their investments, which can lead to better long-term outcomes.
- Tax Efficiency: Long-term investments can be more tax-efficient than short-term investments. In many jurisdictions, capital gains from investments held for longer periods are taxed at a lower rate, which can help investors keep more of their returns.
Long-term investment can be a sound strategy for growing wealth, but there are also some drawbacks too.
When you invest in a long-term asset, such as real estate or stocks, it can be challenging to liquidate your position quickly if you need to raise cash. You may be forced to sell your investment at a loss, or you may not be able to sell it at all.
In addition, tying up your money for an extended period can be a big inconvenience for a novice investor. There is an opportunity to miss out on other investment possibilities that arise during that time, which could potentially yield higher returns.
Anyway, inflation can erode the purchasing power of your investment returns over time too. If the rate of inflation exceeds the rate of return on your investment, you may end up losing money in real terms.
- The inflation rate in the United States reached 4.9% in April 2023
- 41% of small business owners identify inflation as their primary concern.
- 90% of the chief economists expect high or very high inflation in 2023 in Europe
The value of your long-term investment can be affected by market volatility. Economic downturns, industry disruptions, or changes in government policies can all impact the value of your investment.
Long-term investments often require ongoing maintenance and management. If you don’t have the necessary competence or time to manage your investment, you may end up losing money.
They are typically less flexible than short-term investments. Once you’ve committed to a long-term investment, it can be challenging to adjust your strategy if market conditions change or if you need to liquidate your position.
Long-term investment can be an effective strategy for building wealth. But it’s important to consider the potential drawbacks and make a measured decision based on your individual circumstances and risk tolerance.
Examples of Long-Term Investments
- Stocks: Shares of publicly traded companies can be excellent long-term investments, particularly when investing in well-established, financially stable companies with strong growth prospects.
- Bonds: Government and corporate bonds can provide a steady income stream and preserve capital over the long term, making them a popular choice for conservative long-term investors.
- Mutual Funds and Exchange-Traded Funds (ETFs): These diversified investment vehicles offer investors to gain exposure to a wide range of assets, spreading risk and potentially enhancing returns over time.
- real estate: Real estate investments, such as rental properties or real estate investment trusts (REITs), can offer long-term capital appreciation and income generation opportunities.
- Retirement Accounts: Contributing to retirement accounts, such as a 401(k) or an Individual Retirement Account (IRA), can be an effective long-term investment strategy, as these accounts often provide tax advantages and encourage long-term saving and investing.
Psychological factors of the long-term investing
Long-term investment involves several psychological aspects that investors should consider, including the following:
Patience: It may take years or even decades for investments to reach their full potential. Thus, it’s essential to resist the urge to make impulsive decisions based on short-term market fluctuations.
Discipline: This factor is critical to stick to a plan and to avoid making emotional decisions. Set yourself up to get away from the temptation to sell during market downturns and stay invested for the long haul from the very start.
Risk tolerance: Investors should have a clear understanding of their risk tolerance and invest accordingly. Long-term investments typically involve more risk than short-term investments but also have the potential for higher returns.
Diversification: Diversifying investments across different asset classes can help reduce risk and increase the likelihood of long-term success. This means investing in a mix of stocks, bonds, and other assets that are appropriate for your risk tolerance and financial goals.
Long-term mindset: You should focus on your investment goals rather than short-term market fluctuations and minimize checking investment performance: stay committed to a long-term plan.
Conclusion
Long-term investments are financial assets held for extended periods, offering the potential for higher returns, reduced impact of market volatility, and tax efficiency. By focusing on the fundamentals and maintaining a diversified portfolio that includes stocks, bonds, mutual funds, ETFs, real estate, and retirement accounts, investors can build wealth and achieve their financial objectives over time.
