How to gain investment knowledge!

Why should you worry about investment?

We live in a world that is filled with myth and half-truths about the simplest of things.  No one can agree on the best diet for fat loss for example.  So, when it comes to a potentially complicated activity like investing the myths and half-truths are multiplied.  It’s easy for an unscrupulous financial adviser to pull the wool over your eyes and get you into an investment that might be right for him but is terrible for you.  But without a frame of reference, without knowing the basics, how can you possibly know?

So today you are joining me at the beginning of a series of blog articles where I am focusing on teaching you, the reader, the basic principles of investment.  If you want to learn how and where to invest then keep on reading.  If you read my articles and pay close attention then by the end of the series you will be able to begin confidently making your first steps to investing for your future, even if it does feel like investing is for the professionals and people like you are left behind because you don’t know the ins and outs to make your money work for you. 

Are there safe investments?

Now many people may have the desire to have a safe investment.  But of course this is something to guard against because it’s a delusion.  There are no safe investments.  But there are “safer” investments and “riskier” investments.  But risk needs to be considered in an overall portfolio context.  In other words, within the context of your investment portfolio, rather than merely on a stock by stock basis. 

Stock picking versus index investing…

For example, many people are put off by the small print that stipulates, investments can go up as well as down.  This makes potential gains seem not worth taking the risk. However, if we look at the performance of the S&P 500 stock index for example, we find that on average, over the course of its history (nearly 90 years) the historical average return is 10% (not adjusted for inflation).  Now while an individual stock might go down to zero in value (if the company went bankrupt), it is virtually impossible for this to happen to the S&P 500.  Why? 

Well the S&P 500 is considered an indicator of the performance of the US economy.  Unless you think that the US economy is going to permanently fail it is safe to say that any investment you have in the S&P 500 is going to be relatively safe in the long term.  The long term is important since on given day the S&P 500 can go down in value.  But in the long term it has continued to rise.  The point is that stocks are one of the best places where you can invest your money for the best return possible.

What are the principles of investing?

So, what are these principles?  They are pretty fundamental but they pretty much distil into the following key principle.  The principle of diversification.  That is, that you spread your investments around across many different companies and asset types.  That way, if some investments make losses, the gains from the other assets will make up for them.  This is how virtually all conservative investors work.  In this manner, you can reduce your risk and increase your return in such a way that your investment is not going to disappear in the next economic collapse.

Is real estate better than stocks?

Now you have undoubtedly heard of investors who have made money from specific single investments.  Many investors have done this from real estate investments or from buying specific investments.  This can be done but this requires some significant expertise.  Real estate for example, is a highly specialised area that I do not recommend just anyone gets into.  It is more difficult that stock investments in my view, because it means that you will have to actually manage the property.  You will be running a business effectively so I would only recommend this if you are passionate about it and want to make this an occupation. 

Stock investments are a little easier to get into because you are only providing the money – you will not be expected to run the business.  However, you would need to carefully research the companies that you want to invest and learn about the various techniques of financial analysis and forecasting so that you can properly determine if an individual stock investment is for you.  I can help you learn how to analyse these investments, so let me know if this is for you.

For most people this will be too much work, especially if you lack the time or the interest.  So, for most people you will simply want to know where to go, or who ask about where you can put your money.  Certainly, you can ask me or find out on this blog.

Risk and Return

Another key principle is the trade-off between risk and return.  Generally, the higher the return, the higher the risk of the investment.  Oftentimes, you will see ads for investments with really high returns (much higher than you would receive at the bank) but with no discussion of the relative risk. 

A short while ago, a friend of mine showed me an ad for a real estate investment on a tropical resort island.  It was for buying a holiday apartment in this resort.  The return was around 10%.  The sellers of the investment had not built the apartment yet.  This meant my friend would basically be funding the development of the apartment building.  The sellers would lock up his money for several years and he would have eventually sell the apartment to get it back.

So not was this only a high risk individual investment it was also highly illiquid – meaning he would not have access to his money and would have to go through a complicated and lengthy sales process to get his money back.  Additionally, he ran the risk of having the market move against him in the short term which could mean that either a) the property would not be build – meaning he would lose all of his money or b) market prices of these types of apartments could fall, meaning he would lose money on the sale. 

The advantages of stocks…

Note that the return on this real estate investment was the same as the historical return on the S&P 500.  This is another key principle.  Diversification allows one to earn the same return as a riskier investment but at a lower level of risk.  Or you can keep the risk level the same and earn a higher return.  Furthermore, the liquidity of the stock market allows you to quickly get your money back if you need it.  So, for example, an easy way to invest in the stock market is through a fund (such as a mutual fund or exchange traded fund).  Here you can put small sums of savings that will grow (faster than inflation).

Invest like the big investors…

Financial theorists and analysts developed these principles significantly over the past 100 or so years and so they have significant academic and professional analysis behind them.  Professors and lecturers teach these principles in finance programs at all universities and they form the basis for how the most conservative institutional investors make investments.  Essentially, insurance companies and financial institutions create these funds and this is where they keep your insurance premiums, pensions, etc. until it is time for them to make payments to you.  So, if these extremely conservative investors feel secure keeping their money in funds, you can be too.  One conclusion that you can draw is that if pension funds don’t keep your pension in savings accounts and rather they invest it in stocks, bonds and real estate, then perhaps you should be doing something similar.

How Can You Begin Investing?

 

“An investment in knowledge pays the best interest.” – Benjamin Franklin

 

So how can you begin investing?  You need to follow the following basic steps:

1. Decide on your goal – this could be retirement, saving the kids or creating a portfolio for charity
2. Determine your current situation – what is your current income level, how much disposable income do you have, etc.?
3. Figure out your investment time horizon (how many years between now and when you want to meet your goal
4. Calculate how much your savings need to grow to meet your goal
5. Determine your risk tolerance – what short-term losses can you afford to take?
6. Choose appropriate assets that will allow you to meet your goal but are at an appropriate level of risk
7. If you cannot meet your goal in such a fashion, consider if your goal is realistic
8. Choose an appropriate way of making your investments -funds, through a broker, etc.)
9. Review annually – your situation changes over time and it is important that your investment plan adapts to these changes.

The importance of setting goals

The key here is the goal setting aspect of your investment plan.  You need to be clear on what you want to achieve, when you want to achieve it and make sure that your goal is realistic.  For most people this might be something as straight forward and crucial as saving for your retirement.  Obviously, this is something that you need to get right.  You don’t want to get to be 60 years old and find that you don’t have enough money to retire and that you have no time to save any more money. 

Some people think that perhaps if this situation occurs that they will just keep working and retire later.  But this may not be an option for you.  You may suffer from ill health or maybe even not be able to get a job.  This is why you sometimes see elderly people working at the supermarket.  This is not how you want to spend your retirement.

Gaining clarity on your goals…

So, to get clear on this, you need to know what your monthly expenses will be in your retirement years.  You also need to know how many years you need your funds to last (i.e. what is your life expectancy?).  Then you need to figure out how much you need to put away each month now in order to meet that goal.  If you need help figuring this out you can reach out to me and I will explain it to you.  Either way, this is very important.

What are the benefits of investing?

So, what will be the benefits to you if you put these principles into action in your own life?  What can you expect to gain from all of this? You will develop a strong belief that you can invest in a way allowing you to reach your long-term goals.  For example, a client of mine, John, a father of three young children was extremely concerned about two things:  his ability to retire early, (at age 55) and also making sure that his children would be taken care of should anything happen to him.  He wanted to be able to take care of them without negatively impacting his own lifestyle.  He needed to ensure his family had a secure financial future. But he didn’t know where to go or who to ask about where he could put his money.

To help him, I literally held his hand through the steps I outlined above.  I told him where, how much and what return he could expect from his investments if he followed the above principals.  The result was mind-blowing and extremely uplifting for him.  John thanked me, telling me that a session with me gave him a lot of clarity.  He also told me that it feels good talking to someone who knows about investment.  He felt a sense of trust that things will be all right.  And they will.  Both for him and for you.  Just make sure you pay close attention to both this and my following articles on where to invest.

Gaining certainty…

The next thing you will gain is a clear plan to achieve your goals.  So, if your goal is to retire early with sufficient money to live comfortably and also protect the kids’ future I can show you exactly how to do that.  You will be as certain as possible that you have made a good choice about your future.  I will expand on this in the later articles and give you the details on how this works. But it is important to keep in mind that having this plan will keep you moving towards your goals even if you run into financial difficulties (such as losing your job, which has happened to me several times).

In my next article I will be talking about my background story as it relates to investing.  I’ll tell you more about my history and how I learned about investing.  I’ll tell you what my life was like before I discovered how and where to invest and why I decided to make changes.  So, look out for this article because I think you will find it eye-opening!