Attention New Investors: Invest That Cash

You win the lottery; your great-uncle bequeathed you his fortune made during Prohibition; or, more likely, you worked slavishly while saving pennies to amass a pile of cash. No matter the way in which the cash appeared in your account, inflation is slowly eating away at its value unless you do something about it.

For example, if you have $1,000,000 in cash sitting in your account, even at today's inflation rate of 2.3%, it will lose 20% of its purchasing power over 10 years, and after 30 years, it will only be able to buy half as much as it can today. And with today's low interest rates, it's unlikely the cash sitting in your bank is earning very much. To beat inflation, invest that cash.

How should you invest it? Here are plans for two different hypothetical investors: one for an investor not interested in researching and following companies, and one for an investor who finds such research fascinating.

For the investor with other passions
Researching stocks isn't for everyone. If you have absolutely no interest in learning about how a specific company operates, who leads it, and envisioning the potential future of the company, then picking single stocks isn't for you. And that's OK.

If you fit this description, you can use a portfolio of low-cost funds that track major indexes. Make sure to rebalance it every so often, and it is likely that you will outperform a majority of actively managed mutual funds. How is that possible? Well, about 84% of those mutual funds underperformed their benchmark indexes last year.

Many such example portfolios with specific fund selections are available through the Motley Fool's Rule Your Retirement community. Here's a general example of such a portfolio that's aimed at those who are getting closer to retirement:

Fund Components
Allocation
Large-cap stocks 30%
Mid-cap stocks 10%
Small-cap stocks 10%
International stocks 15%
Bonds 35%

Source: Rule Your Retirement.

These can be made up of mutual funds or exchange-traded funds, like the Vanguard Total Bond Market ETF (NYSE: BND  ) and the Vanguard Large Cap ETF (NYSE: VV  ) .

While this takes away the anxiety from investing in specific companies, you might still worry about investing at a market top. To solve this, take smaller chunks of your cash and invest them over a longer time period (called dollar-cost averaging).

For the investor with passion
On the other hand, if you love learning about how a company operates, who runs the show, and fantasizing about a company's future, don't be afraid to select companies that you think will outperform the market. Read The Motley Fool's "13 Steps to Investing Foolishly," which will give you the basic knowledge required to make your first investments, such as:

  • Spread out your risk. Just as the portfolio above is spread across different geographies, sizes, and types, a portfolio made up of single companies should be spread across a wide range of classifications. This ensures that if one stock goes to zero, your entire portfolio isn't worthless.
  • Look for sustainable competitive advantages. Companies that have no competitive edge, or moat, won't survive long. Look for companies that benefit from their large scale, intellectual property, or regulation to ensure that a competitor won't appear and steal future profits -- and shareholder returns.
  • Invest for the long-term. Constant buying and selling not only requires a lot of time and effort, but it also increases transactions costs, fees, and potentially taxes. If you buy and hold, you can avoid paying too much to invest and realize greater returns.

If you're looking for specific ideas, Fool colleague John Grgurich writes a great series on stocks for beginners, with recent articles on McDonald's (NYSE: MCD  ) , MasterCard (NYSE: MA  ) , and Whole Foods Market (Nasdaq: WFM  ) . John likes McDonald's gross margin of about 40% compared to its industry's 30%, and its profit margin of 20% compared to its industry's 10%. MasterCard sports a healthy pile of $5 billion in cash and zero debt, with a large moat of being an established credit card processor. Whole Foods' brand helps it earn one of the best profit margins in the supermarket sector of 3.5%, and the company is riding the trend of more health-conscious consumers.

Keep fighting inflation
While you should set aside enough cash for emergencies or upcoming purchases, the rest of your cash should be working its hardest to earn you more money and fight inflation. Investing in funds that track indexes is an easy way to earn the market's return. Investing in individual stocks takes more effort, but as The Motley Fool's record shows, can earn you substantially more than the market.

To find out more stocks to invest in, read our free report on "3 Stocks That Will Help You Retire Rich."

Fool contributor Dan Newman holds no position in any of the above companies. Follow him @TMFHelloNewman.

The Motley Fool owns shares of Whole Foods and Mastercard. Motley Fool newsletter services have recommended buying shares of Whole Foods and McDonald's. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.


Read/Post Comments (5) | Recommend This Article (50)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On June 12, 2012, at 5:41 PM, bretco wrote:

    I suggest waiting until a bit after the Greek elections and see where the euro settles.

    Timing the market....perhaps a bit, but with all the doomsday forcasts, a prudent move.

  • Report this Comment On June 12, 2012, at 9:47 PM, SwiperFox wrote:

    I had a bunch of cash recently. Put a large down payment on a price reduced property at an amazing rate.

    That's what I would suggest, though your recommendations are good.

  • Report this Comment On June 12, 2012, at 10:41 PM, LoadDrive wrote:

    I guess I'll hold onto my money for awhile. Price's will be dropping Big-Time after the Greek elections. Whats that old-saying " You can Bet the Barn on that one! ;)

  • Report this Comment On June 13, 2012, at 9:52 AM, gilbertmj2 wrote:

    For the tepid investor, first-time investor, or risk averse investor, what are the thoughts on high-interest checking accounts?

    This can actually be an effective strategy if you have the discipline to not "think" you have "more" money and therefore can spend more. One way is to ask your bank to put excess funds on hold. For example, if you normally have a $2,000 balance in your checking account, seeing that jump $10,000 to $12,000 might cause you to spend more money. But if you put that $10,000 on hold, you only see $2,000 and earn ~4% interest on $12,000.

    Another place to look at it is the majority of fixed-income funds. Funds such as $JPS, $FFC, and $HPF have close 52-week ranges, and pay a nice fat dividend. For instance, the $JPS dividend is 7.69%! Not a bad place to put your money either.

  • Report this Comment On June 15, 2012, at 2:42 PM, CousinDNA wrote:

    I was looking at your list of losing trades.

    I guess that even those who have significant knowledge bout the equities market can make major errors.

    I'd be interested in "Motley Fool "Options""

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