Investing is the process of putting money to work in assets like stocks, bonds, real estate etc. with the goal of generating returns. The core concept is that more net investment, after accounting for depreciation, results in capital accumulation and higher potential returns. However, all investments carry some risk, so balancing risk and return is key.
Net investment increases the capital stock
When a business or individual makes an investment, part of that goes towards replacing worn out capital, while the rest is net new investment. This net investment directly increases the capital stock – i.e. the buildings, equipment, technologies owned. A larger capital stock allows higher production volumes and profits. On a national level, net investment contributes to economic growth.
Market risks impact returns
While net investment is important, market conditions also substantially impact actual returns. During economic expansions, investment returns tend to be higher as asset prices rise. However, in recessions asset prices often fall significantly, hurting returns.
Diversification balances risk and return
Rather than betting on a single asset, investors can balance risk and return by diversifying across different asset classes like stocks, bonds, real estate based on individual risk tolerance and investment horizon.
In summary, increases in net capital investment contribute to asset accumulation and have the potential to generate higher returns over the long run. However, there are always market risks that impact actual returns. Diversifying across assets can help manage this risk.