Are you aware that the recession hit Latinos in the United States the hardest? According to the Pew Research Center, Latino households lost 66 percent of their wealth from 2005-2009.
Unfortunately, most Latino wealth is in real estate and the real estate bust pulled the rug right underneath us. Our parents kept telling us that owning real estate was THE WAY to get rich in America. This view is biased because our parents don’t know any other way to invest beyond buying their own home and buying a rental property or maybe starting their own small business.
You have read or heard many times that you need to diversify your investments, but what exactly does that mean? The simplest example of diversification is provided by the proverb "don't put all your eggs in one basket." Dropping the basket will break all the eggs. Placing each egg in a different basket is more diversified. There is more risk of losing one egg, but less risk of losing all of them. Well that’s great but when it eggs.
I have yet to meet a Latino who can give me the proper definition of what a diversified investment portfolio means. While at an outdoor café the other day, I decided to randomly ask a few people to explain to me what it meant to diversify. The answers varied, but three common answers were; I couldn’t tell you because I have no money to invest; don’t put all your money in the same place; and different cultures working together and getting along (I think they thought I was asking them about diversity).
Diversification is an extremely important concept that Latinos will need to understand if we are to build wealth. The dramatic loss of our wealth due to mostly being invested in real estate proves that point.
In its simplest form we need to think of all investments as three different types (the investment world likes to call them ASSET CLASSES); CASH, FIXED, and EQUITY. The reason that they are different is because they behave differently and have distinct characteristics.
CASH is actually money that we save and give to financial institutions (such as banks) in the promise that they can almost guarantee our money back safely and quickly while we earn a small fee (interest rate) for lending them the money. Cash investments are usually bank savings accounts, money market accounts and short-term certificates of deposit.
FIXED investments allow you to lend money to corporations, cities, the government of the United States, and other people. You promise to lend them money for a longer term, let’s say from 5 years to as much as 30 years in exchange for a higher interest rate than you would normally get in a bank. As you can see, the risk is that if you lend them the money for a long time and then the interest rates start going higher you just can’t ask for the money back to invest it somewhere else. You have signed a contract to lend them the money for the agreed upon time. Bonds are a typical example of fixed investments.
EQUITIES are investments in shares (stocks) of companies in the United States or internationally or real estate you are an owner (no longer lending money to someone else) and taking all the risk. You actually have no idea as to what your investment will be worth in one year or 25 years. What you do know is that if you can hold on to the investment for a period of 7 to 10 years or longer you have a much better chance to have your money earn a better return on your money than if you would have invested in the other two types of investments.
The question you are now probably asking yourself is which of the three investment type should I invest in? Which is the best of the three? Which is the worst of the three? The answer is significantly simple and complex at the same time. It depends on what YOUR GOAL is for the money and the TIME FRAME you have to reach your goal. ALL of them are good and bad depending on how you use them for the result you are trying to accomplish. The most prudent thing at this point is just to become AWARE that investing in just one TYPE can be extremely disastrous as has just been proven in the most recent statistics by Pew. To read more about investing and diversification, you can read my book: “My Street Money – A Street Level View of Managing Your Money from the Heart to the Bank.”
Louis Barajas is the first Latino Certified Financial Planner in the United States and author of five bestselling books on personal finance and small business.