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Lesson 3. An Investing Primer > Investing Basics - Pg. 13

An Investing Primer · Starting early is a sure way to build wealth through compounding. 13 In the last table, Joan only invests a total of $12,000 more than Bill (10 years × $100 per month = $12,000), yet her total is over $835,000 more. This is the magic of compounding. Tip Start the investing habit when you are young and plan on increasing the amount you invest each year as your income rises. Employee stock options can increase the magic of compounding by letting you buy stock at a dis- count. For example, say you hold nonstatutory options to buy XYZ stock for $10 per share and the market value is $20 per share. As soon as you exercise your options and buy the stock for $10 per share, you have doubled your money. (Of course, you will have to give some of it back in ordinary income taxes, but whatever is left is tax-free until you sell the stock.) The Importance of Diversification Diversification is the process of spreading your investment out over several companies in different industry groups. Why is this important? If you had most of your portfolio in high-tech stocks in spring 2000, you probably lost your shirt. During this period, many of the high-flying Internet stocks dropped 60 per- cent or more of their value. Investors that put some of their money in other sectors probably didn't do as well in 1999, but sure came out ahead by mid-2000. How you split up your portfolio is called asset allocation asset allocation. The process looks at your current and future financial prospects and devises a way to split your assets to accomplish your