Before you really consider dipping your toe in the market waters, you should understand some of the different options you have.  We'll discuss the most basic differences among these three options.

What is a stock?  Simply put, it's part ownership in a company.  When you buy a share of stock, you own a small percentage of that company.  Straight stock ownership is the most risky of the three we'll discuss today, and requires the most attention.  All of your profit is dependant on this one company to do well.  If the company does well, so do you, and the more shares you own the better you do.  Likewise, if the company goes bankrupt, you, and shareholders like you, are the last to get paid.  Creditors like banks and bond holders always come first.  As a beginner, you should never buy any amount of stock unless you are fully willing to lose every penny you put into it.

A mutual fund takes SOME of the risk out of the equation.  When you invest in a mutual fund, your money goes into a pool with thousands of other investors that is then used to buy stocks and bonds.  These pools of money are invested by a fund manager.  You've undoubtedly heard of the importance of "diversifying your portfolio."  This is one way to do it.  Mutual funds use your money to buy and sell many different stocks to try to maximize profits for the fund. 

The risk is reduced here because you are paying a professional manager to decide which stocks to buy and sell, and when to do so.  You pay for this service, though, in management fees and the like.  One thing to keep in mind with mutual funds, is that they are cateogorized and restricted by the type of investment.  A simple example is that stock funds can only invest in stocks, and bond funds can only invest in bonds.  You need to pay attention to the different kinds of mutual funds because the risk varies greatly.  Even if the fund manager is a genius, he or she is restricted to investing within the category.  Most financial planners offer some variation of a small-cap, mid-cap and large-cap mutual fund.  A small-cap company is one whose market capitalization is relatively small.  Market capitalization equals the number of shares of a company multiplied by the value per share.  The exact definition varies among firms, but generally a small-cap has a market capitalization under 1 or 2 billion dollars.

A billion dollars sounds like a lot, but small-cap companies are generally newer, smaller companies that run a greater risk of going under.  The flip side of the coin, of course, is that smaller companies sometimes have a greater expansion rate, and generate more profit.  The point is, before you invest in a mutual fund, understand what kinds of investments it is restricted to, and be sure that is what you are interested in.  Know the risks and potential gains.

A bond is generally the safest of these three, though there are bond mutual funds.  When you buy a bond, you, and others like you, are essentially acting as a bank does, with either a government or corporation as your "client," if you will.  Governments and companies issue bonds when they want to raise money for a particular purpose.  A bond holder is essentially lending money to one entity or another, in exchange for repayment of the loan with an additional interest payment over a set period of time.

Take Jones Inc. as a fictional example.  If you buy stock in Jones, you own part of the company, and the owner is always the last to get paid, after all the other bills.  If you buy a Jones bond, you are not part owner, you are a creditor, and creditors get paid first.  The profits of an owner fluctuate with the success of the company, the profits of a creditor remain constant as long as said company remains in business.  And if Jones goes belly up, any available capital will pay the bond holder before it gets to the stock holder.

Of course, the downside is that if Jones gets huge, your income remains constant, and generally ends after a pre-determined period of time, like a bank loan for a car.

Bonds are safer, but still carry risk, depending on who you lend your money to.  The higher the interest rate you are offered, the more likely you are to not get paid.  The safest, and therefore least paying bonds are issued by the government.  It's just like why people with a credit score in the 400's pay higher interest for a car than people with credit scores in the 700's.

 If you put every dime you have in Jones, Inc. you will make the most money possible when they invent the world's tastiest popcicle and everyone buys them. You will lose every penny if no one likes them and the company goes bankrupt.

You put every dime in a mutual fund that owns Jones stock.  You will make some money with the greatest popcicle, but it will depend on how many shares of Jones the fund owns, and how the other companies in the fund are doing.  You will also pay fees to pay the fund manager.  Likewise if no one likes the popcicle, you will lose some of your money, but your bets will be covered to a degree by the other companies in the fund, and by paying the manager to hopefully know when to get out of Jones stock.  You are much less likely to lose your entire investment, but you won't make much if Jones is the only one doing well.

You sink every dime in Jones corporate bonds.  They need to raise money to buy a giant refrigerator for all these popcicles.  They offer you 7% interest for 10 years.  These popcicles become the biggest thing since sliced bread.  You get 7% for 10 years.  The company staves off bankruptcy and stays in business, but the popcicles are only a mediocre hit.  You get 7% for 10 years.  If Jones goes bankrupt with its ridiculous idea for cigar flavored popcicles, you might not get your entire investment, but you will get paid before the shareholders, including the mutual funds.

As a general rule, in my opinion, stocks and stock mutual funds are for younger people with more time to recover from market fluctuations.  Bonds and bond funds are for people nearing, or in retirement.  Older people, ideally, have more money already, and should be focusing more on steady income and less on growth.  Younger people need to be more concerned with growth, and need to be somewhat more willing to accept risk.  As younger people become older people, they should gradually shift their investments from stocks and the like to bonds and the like.

I would like to reiterate, as I probably will in future posts, that I am also somewhat wet behind the ears with respect toinvesting.  I hope to share what I learn as I learn it.  This will serve me as much as anyone else as a form of notes to look back on.  I am always open to constructive comments, or questions, for that matter.  If I don't know the answer, I will go find it!  I believe the next post will focus specifically on stocks, and different types of buy and sell orders.

As always, thanks for stopping by!