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20 Investing Questions You Were Too Embarrassed to Ask, Part 2


Didn't find the answers in Part One? Read on for 10 more explanations to common investor questions.

Editor's note: This is the second part of a two-part series. Click here to read the first half.

11. What does Goldman Sachs do?
Goldman Sachs (GS) provides services like investment banking and management, asset management, securities trading, financing and equity research services to a number of different types of clients: corporations, other financial institutions, governments and high net-worth individuals.

In addition, it invests its own money in funds, real estate, and a variety of facilities, underwrites public offerings, makes markets, and is a primary dealer in the United States Treasury securities markets (the debt instruments like treasury bills, treasury notes, and bonds that the government sells in order to operate). As a result, Goldman Sachs is very important to the financial dealings of the country.

If you didn't know the Goldman Sachs name before the housing bubble burst, that probably changed soon after. In April 2010, the SEC filed civil fraud charges against Goldman Sachs, alleging that the company withheld important information around an investment portfolio named "Abacus." The hedge fund manager who put the deal together, John Paulson, expected that the housing bubble would burst and hand-selected the assets in the Abacus portfolio with the intention to short it, and potentially profit from the market failure. He approached Goldman Sachs with his intention, and Goldman Sachs found investors willing to buy into the portfolio -- but did not disclose the hedge fund manager's stake in the deal in any investor marketing materials, including the fact that some of the bonds he had handpicked for the portfolio were included in Abacus, or that he picked them expecting their demise. The bubble did indeed burst, and John Paulson reportedly made around $1 billion. Goldman Sachs made $15 million in fees for its involvement. The Abacus investors, on the other hand, lost billions. The problem wasn't inherently in the fact that the hedge fund made money from the failure of its own investment tool. The SEC charges stemmed from the fact that Goldman Sachs did not disclose the hedge fund manager's shorted position or involvement in selecting the portfolio assets to investors. The bank settled the charges in July 2010, without admitting to or denying them.

12. Is the bond market more complicated than the stock market?
Although bonds are typically considered less risky than the stock market, the bond market is actually more complicated. Bonds are issued by many different entities including governments, corporations, and municipalities, for various time periods. The value of a bond is impacted by many factors, including the health of the issuing entity, determined based on a credit rating score assigned by Moody's (MCO) or Standard and Poor's (MHP). That score can change at any time based on interest rates, consumer sentiment, and the issuing entities' risk of default. Because bonds move inversely with interest rates and are heavily impacted by inflation, bond values are determined by the yield curve, or a line that plots interest rates compared to bonds of equal credit quality but different maturity dates.

13. What about currency investing? If the euro or yen goes down, shouldn't I buy some with my U.S. dollars, and just hang on to it?
Currency investing takes place in what is called the forex market. It trades 24 hours a day, and prices move constantly. Forex trading always involves a pair of currencies compared to another, and by its nature, requires that you go long on one (meaning that you expect its price to rise), and short on the other (you sell in anticipation that it will depreciate). While there is money to be made in the market for those who understand it, it is highly complex, volatile, and risky. Forex trading is based on "leveraging" or "gearing" "actual" money in an account, in order to increase buying power. Because every second counts in the Forex market, "doing nothing" could actually drain your account, leading to a "margin call," which requires you to pay back all losses (not just what was in the account), and whatever fees you owe the broker.

14. Is gold always a good buy?
Though gold has snatched up headlines because of its double-digit growth over the past few years, the climb is something of an anomaly. As a long-term strategy, having gold in your portfolio can be a great diversifier to stocks and bonds -- but so can other commodities. According to CBS Moneywatch's Larry Swedroe, comparably speaking, a portfolio examined from 1970 to 2010 that contained commodities versus one with gold actually performed better, producing annualized returns of 11.32% vs. 11.29%.

15. Can I invest in companies outside the U.S. via a U.S. broker? Like, can I invest in a Chinese company?
You can buy into Chinese stocks through U.S. brokers via many investment firms; there are more than 50 Chinese companies publicly traded on the New York Stock Exchange (NYSE) and Nasdaq (NDAQ). To minimize risk, you can also invest in mutual funds that hold stake in a variety of emerging markets.

16. Can I invest in private companies? How?
Many private companies require investors to meet the definition of "accredited investor," but not all. So-called "angel investors," often contribute as little as $25,000 to an entity, and can network via free sites like Go4Funding. Forming a partnership with established venture capital groups that focus on a similar objective to yours can also be an option, depending on your available funds. If you have a specific company in mind, you can also offer to buy shares directly from a company's founders or employees, if they are willing to sell.

17. Some non-profits seek investors, right? Why would I invest in a non-profit?
Non-profit investors generally do so because they believe in the cause and sustainability over the program, versus investing for pure financial gain. However, there are often tax credits given to non-profit donors, provided the organization qualifies for tax-deductible status.

18. If we head into another recession, would that be a bad time to invest?
Successful investing requires having enough cash reserves on hand to ride out market turbulence, and diversifying your portfolio to manage exposure to a variety of sectors. While a recession could indeed bring stock prices lower, investors can find safer havens in historically recession-proof industries like health care, consumer staples, and utilities-especially when those stocks pay dividends. Economic uncertainty also presents an opportunity to find bargains in the market, as long as you won't the need the cash in the short-term.

19. Is it a good idea to buy stocks in the brands you buy anyway?
Knowing the product and its consumer will help you to understand demands, and spot changes in the industry and marketplace trends, but you should also consider other research like the company's health, P/E ratio, stock price fluctuations and analyst recommendation when choosing stocks.

20. If a company goes bankrupt, what happens to the stock? The bonds?
According to the SEC, a company that files for Chapter 11 can still trade securities until a resolution is reached, though bondholders will stop receiving interest and principal payments, and stockholders will stop receiving dividends. If a reorganization agreement is reached, bondholders may receive stock in exchange for bonds, new bonds, or a combination of the two. Stockholders may be asked to exchange old shares for new reissued shares-though they won't necessarily equal the value of the old shares. If a company is deemed insolvent and declares bankruptcy, bondholders stand a better chance of recovering losses than stockholders, who will likely be left holding worthless shares of common stock.

Editor's note: This is the second part of a two-part series. Click here to read the first half.

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