Ten things to consider before making investment decisions
Dr Andre Haughton, Contributor
1. Assess current financial situation
Before thinking about investing, you should have a clear idea of your current personal financial situation. How much do I currently earn? How much from my earnings can I invest without significantly reducing my consumption pattern or standard of living? In other words, how much can I sacrifice in the short run to gain more in the long run? By analysing your current financial situation, you will have a better idea of where you are and where you want to be financially.
2. Understand your personal risk preference
Upon understanding your financial position, you now have to get a perspective of your risk preference. Some people are risk-loving while others are risk-averse. Your risk preference will determine your investment pattern. Every investment is a risk, given that there is the possibility you might not make a profit and/or lose your principal entirely. Successful investors align their investment instruments with their risk preference. If you have clear long-term goals to achieve with little start-up capital, you might want to take more risk since there is less to lose and more to gain.
3. Have a goal you want to achieve
To become a successful investor, you must have a clear financial goal you want to achieve. By so doing, you are now able to analyse the best investment projects to achieve the goal with minimal risk. You can figure it out on your own or with the help of an independent financial adviser. Achieving wealth through investing is no guarantee, but with a clear understating of savings and investment fundamentals, you can maximise on your investment.
4. Balance your portfolio
Do not put all your eggs in one basket and if you have only one egg, find the safest basket within your reach to put it in. Try your best not to invest in instruments that all depend on the same market conditions. Find a mix of investment instruments that move up and down to varying markets conditions. By balancing your portfolio you minimise risk, thereby minimising losses. Traditionally, stocks, bonds and cash are influenced differently by the same market conditions; factors that might cause one to improve might cause the other to deteriorate. Be sure to pick your mix of investment instruments in a balanced manner.
5. Have an emergency investment
Do not tie up all your liquidity in long-term investments that are non-redeemable without penalty over long period of time. In the case of emergency, you will need cash right away. Emergencies can be positive or negative. Negative emergencies like sickness and death are important, even though you will lose money. Positive emergencies may come in the form of investment projects that are only profitable right away. Always have your ante ready to bet in the case of an emergency.
6. Know how to identify fraud
If it is too good to be true it probably is. New ideas and new investment projects present themselves every day. How do you decide which investment is legitimate and which is not? If an investment presents itself to offer a very high return in a very short space of time, via a traditional avenue, it is probably bogus. Examples of these include partner plan and pyramid schemes. Stay on your toes with money, ask yourself: Why the deal? What is the catch?
7. Analyse the cost to return
Some investments are just a waste of time with no real return at the end of the day. Ask yourself, what am I gaining at the end of this? How much am I investing and what is the annual rate of return? Am I getting the best return for my money, time and energy? Sometimes we end up wasting time on a bad investments because we did not properly calculate the numbers. Do the maths.
8. Understand the investment
Some investors are blindfolded by the fine print of some investments projects and/or portfolios. Do not neglect the fine print, they are legally binding. Some investors make investments based on recommendations by friends; make sure you understand the investment as much as your friend, since they will not refund you your principal if you lose. Always try as best as possible to seek sound financial advice.
9. What are the alternatives?
Before you invest in a particular project or portfolio, be sure to ask yourself, what are my alternatives? Is this the best I could do? Always try to calculate the opportunity cost of your investment decision to maximise on your decision.
10. Seek professional financial advice
Some investment projects are simple to analyse while others are tedious. Whichever way, it's always important to seek professional long-term financial advice. It is not coincidence why wealthy investors have financial advisers. Get sound financial advice from Mayday Financial Services Limited; send email to firstname.lastname@example.org.
Dr Andre Haughton is a lecturer in the Department of Economics on the Mona campus of the University of the West Indies. Follow him on twitter @DrAndreHaughton; or email email@example.com.