The 5 simple rules of smart investing
It is very easy to buy and invest. The hardest part is to sell at a profit. If you just want to buy and own, with no intention of selling, then that act is not investing. This is probably why the invaluable artworks at the Vatican are valued at zero, they are not meant to be sold. Investing requires a great deal of study for the investor and on the investment. To put it simply, there are five rules to follow in the order they are laid out below:
1. Know your investment return objective and risk preference.
Investing without a goal is like going on a journey without a destination. And earnings are NEVER the goal. It is what you intend to do with those earnings that is the goal. If you just focus on returns, but do not have a goal, you will never know when the returns are already enough.
So, the return you need to earn is derived from the quantification of goals (what you need, inflation imputed) and their comparison to what you have to start with; what you can add periodically; and the time you have left to meet the goal. Example: The goal is to earn P200,000 in 3 years for a planned European trip. That means you have to earn 200,000 (inflation imputed) more than what you originally invested in a period of three years.
That derived return will have an implicit risk level. Remember, the cardinal rule in investing is that the higher the return, the higher the risk. And you will need to temper that return with the risk you are willing to take.
2. See if you are all SET.
I capitalize the letters because “S” represents the size of funds, “E” your expertise (and experience) in investing and “T” your time available for managing investments directly.
Size of funds means having the means to fully diversify your portfolio. Also, information is key in investing and a larger portfolio will provide easier access to such information (and not just dangerous free tips).
E which means expertise and experience are pre-requisites for investing. As Warren Buffett puts it, you should only invest in what you know. Otherwise, you will see your investment easily go down the drain.
One of the busiest activities of airplane pilots is when they take off. Their attention has to be 100% on the plane and its instruments. The same goes for starting an investment portfolio. You need the T or the time to directly manage your investments.
Even if you lack any one of the S, E or T—not an expert, no time to personally manage the funds, or don’t have the money to fully diversify—you can still invest. But you will need to do so through professionally managed pooled funds. In the Philippines, these would be variable unit-linked (VUL) insurance, mutual funds, and unit investment trust funds.
'By regulation and adherence to global best practices, pooled funds like variable unit-linked (VUL) insurance, mutual funds, and unit investment trust funds already incorporate diversification in their portfolios.'
3. Look for investments that best suit your answers to rules 1 and 2.
Looking around involves a thorough study of investment options to see if their risk/return potentials meet the criteria established in steps 1 and 2 of these guidelines. Which of the investments options meet your goal and is just right for your risk appetite? Which allow you to be S-E-T? Though stock tips provide insights, it does not mean they are for you. They are also options that you have to study.
4. Manage investment risk through diversification.
No investment is without risk. Even governments can declare debt moratorium and request for the restructuring of their obligations. The best way to manage risk is through diversification. Diversification is the practice of trying to achieve the same return at a lower risk (i.e. not a higher return for the same risk).
Diversification can be had by spreading risks by asset class, currency, geographical exposure and many others. Fortunately, by regulation and adherence to global best practices, pooled funds like variable unit-linked (VUL) insurance, mutual funds, and unit investment trust funds already incorporate diversification in their portfolios.
5. Monitor your investment performance periodically.
If you are just starting to invest, and for your peace of mind, you can monitor your investments monthly. But as time goes by and you get the hang of things, you will see that monitoring your investment quarterly would be the optimum way to go.