Last month’s column dealt with the risks associated with some investment options.
Unsophisticated investors are often tempted with too-good-to be-true headlines:
• ‘Record-breaking Fund Manager Posts 25% Return’
• ‘Property Syndication Promises High Yield for a Housing Market out of Reach’
• ‘Finance Companies Offer Greater Returns at no Risk’
• ‘KiwiSaver Fund Ranked No.1 for Performance’
We all want to have our cake and eat it: to enjoy high returns from our investment, but without risk. Unfortunately, evidence shows that one does not exist without the other. Where the distinction between speculation and investment lies is risk, but this doesn’t need to be reflected as loss.
The risk associated with speculation is that you can lose most or all of your money.
The difference with investment is that risk comes in the form of volatility, not the threat of losing all your money. The significance of this is that when you are no longer able to rely on an income from paid employment, you will have an investment strategy to support you through the good times and the bad.
A balanced approach to investing will not deliver record-breaking returns (and potentially eye-watering losses) but, instead, a reliable cashflow to fund a lifestyle worth living.
The principles behind this are similar to the tried-and-true fundamentals of a balanced and diversified diet. Cash, like fruit in an eating plan, is readily available and quickly consumed, and is normally used to pay taxes and fees and to provide cover for rainy days.
As with vegetables, investment in bonds provides a more substantial contribution to good financial health and is predominantly used to fund income because of its ability to pay interest while also offering a capital gain at the point of sale.
Like protein in a diet, property often makes up a smaller proportion of the investment mix. Its main purpose is to act as a buffer against the fluctuating nature of shares due to the low correlation they have to one another.
Carbohydrates are the fun part of a good diet, but it’s wise to learn how to differentiate between good carbs and bad. With shares, it’s not so easy to spot the winners from the losers, so a diversified approach will provide protection: a combination of New Zealand and international, hedged and non-hedged and, most importantly, a strategy that captures the market, not just an industry.
So, before you jump on the get-rich-quick bandwagon, I implore you to consider this: the return of your money is more important than the return on it.