One of the biggest challenges any investor faces is working out the most suitable investment strategy. There’s no end of options to choose from and how do you know which one’s right for you? And once you’ve worked out a strategy how do you decide what specific investments to choose?
There are many, many books dedicated to these questions, so this post aims only to suggest some ways to start thinking about it. The key is, think about it you must!
When you’re trying to work out an appropriate investment strategy there are some basic questions to consider, the answers to which can be different for everybody:
- What’s your time frame? Are you talking about a strategy to set you up for retirement, or to reach a specific goal (fund a house deposit), or is it open-ended (perhaps starting a nest egg for your kids)?
Put simply, the longer the time frame the more options you have to choose from. For example, if you’re 20 years old and want to start a long-term savings program, you can look at anything; on the other hand if you’re planning to retire in five years and work out you need to double your current savings in that time, well, your options are seriously limited.
- How much are you going to invest? Are you starting from scratch or do you already have a lump sum? Again, you might be at uni and you’ve heard the best savings program is one that starts as early as possible, or perhaps you’ve just inherited a sizeable chunk of money and you’re presented with a challenge you’ve never had before.
If you’re starting from zero then presumably you’re going to be quite young; clearly the property market is out of the question, so you need to look at either shares or some kind of managed investment where you can drip feed money in.
Obviously the more you have to invest the more options you’ve got. Everything from property and shares to private equity and venture capital. Or a combination of things, that is, a diversified portfolio.
- What is your appetite for risk? While this is possibly the most important question in investing, it can be a really difficult question to answer because everybody wants the joy of high returns without the stress of facing potential losses. Until you’ve lived through a market correction, where you’ve watched 20% of your money disappear in a hurry, you’re only able to guess what your risk tolerance is.
Conventional wisdom says if you’re young you should take on more risk, but what’s the point of that if you lie awake at night stressing about a potential share market fall? Likewise, if you’re embarking on an investment strategy relatively late in life that realistically may have to support you for 30-40 years, it would be unlikely that a super low risk strategy will see you meet your objectives.
At the end of the day you have to find a strategy you’re comfortable with and you’ll be able to stick to. Some people love property and just don’t really understand shares, others might freak out at the illiquidity of property. It ends up being a balancing act between where you want to get to (your risk requirement), being able to sleep at night (your risk tolerance) and your ability to recover from a correction (your risk capacity).
- How much do you really know? One of the most influential biases identified by behavioural economics is that we tend to overestimate how clever we are. Believe me, there’s no point deciding you’re going to make your fortune trading futures if you don’t know a pork belly from a forex swap. And you may have heard you can make great money trading antique guitars, but if you don’t know how to pick a Fender Telecaster from a Gibson Les Paul with your eyes closed you’re going to get taken out backwards.
Work out if you’ve got an edge or if you have the time and inclination to learn one. If you’re a builder then naturally you may have developed a good feel for a property bargain. There are plenty of seriously wealthy self-taught investors, many of whom have taken the time to write books letting you in on their secrets, and if you’re not into reading, then check out YouTube.
Investing is like many things in life: if you have a plan and stick to it you’re likely to get much better results than making it up as you go. If you don’t really know where to start, then ask somebody whose understanding of how to make money you respect or admire. And if you don’t know someone who fits that bill, then find yourself a good adviser.
If you’re interested here are two books to get you started:
“The Intelligent Investor” by Benjamin Graham. This was first published in 1949 and is famous as being the most influential book for Warren Buffet and every on of his millions of acolytes.
“The Essays of Warren Buffett”, edited by Lawrence Cunningham, highlights some of the fireside chat wisdom from the man broadly acknowledged as the most accomplished investor ever.