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For investments, principal is the original amount of money invested, separate from any associated interest, dividends or capital gains. For example, the price you paid for 100 shares of stock at the time of purchase is your principal. Once purchased, the value of your stock holdings can fluctuate, meaning you can see an increase or decrease to your principal.
Why does this matter?
Because your principal is your baseline for measuring the return on the face amount of your savings or investment. If you put $1,000 in a bank account and earn 4 percent, you have $40 more than your initial deposit. If you put that same $1,000 under a mattress, your principal will not grow at all.
Investments put your principal at risk.
Bank products that are FDIC-insured carry no risk to your principal up to $100,000 (or up to $250,000 for an IRA account). But investments do. When you invest in stocks, bonds or mutual funds you take on principal risk, the chance that you could lose some or all of your initial investment. The tradeoff is that, generally, investments hold the potential for greater return than insured bank products.
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