QUESTION: I am looking for a safe way to invest and to earn great rewards on my principal. Do you have any advice to give me?
– Claudette
FINANCIAL ADVISER: You want great returns but you also want safety of principal. These two positions are opposite to each other, for there is a direct relationship between risk and return: the higher the risk and lower the safety, the higher the return; and the lower the risk and higher the safety, the lower the return.
What are the safest investment instruments, the ones that give you the assurance that your principal is safe such that you will recover the principal sum you have invested? Bonds. This holds if you hold them to maturity as their prices tend to change when interest rates change.
It is also true that short-term bonds are safer than long-term bonds as their prices fluctuate less in response to changes in interest rates. But even bonds of the same maturity vary in quality, which is reflected in the rate of interest attached to them. The more risky ones pay more interest and the less risky ones pay less interest.
What is one type of investment that pays high returns? Ordinary stocks, also called equities. The truth is that they also cause serious losses because they are quite risky. Also true is that the quality of equities varies. There are some very good stocks, which yield very good returns, but there are others that can send you to the poor house.
If you want high yields, you will have to invest in instruments that generate high yields, but such instruments are not going to give you the security of principal that you clearly are interested in.
Risk profile questionnaire
This is a relationship that all investors must understand and embrace. I was discussing this subject with a manager in the securities industry only a few weeks ago. He stated that many of his clients complete the risk profile questionnaire, and although the results clearly show them to have a low tolerance for risk, they insist on instruments capable of giving them high yields. Well, the two do not go together.
I get many questions from readers asking how they can make super returns in a short time. Many times, it is younger persons who desire to get along quickly in life – like buying a house in less than five years without, at the time, having any funds.
It is hard to appeal to the patience of my readers when the reality is that prices are increasing, some investment returns are low, those that are good come with high short-term high risk, and many want to achieve important goals, but it is important to be able to wait and not to risk becoming vulnerable.
The best I can do is to suggest that you and others who want to realise high returns – and sometimes pretty quickly – take the approach of saving as much as possible now, and this may require much sacrifice as it requires deferring consumption so that more funds can be directed to investments.
I suggest also that you create a diversified portfolio. Invest in the more conservative investment instruments as well as in those that promise greater returns with a higher level of risk.
To be able to make more useful decisions, I suggest also that you learn as much as you can about investments and that you keep on learning. When you know and understand more about investments and the instruments available, you should be better able to make more useful decisions, but this does not always happen. Some persons do not seem able to handle investment matters, perhaps because of how they are ‘wired’ psychologically.
Knowing more about investments has another important value: it gives you power when you speak to an investment professional, for you are better able to ask the right questions and have some sense of whether what is being recommended to you makes sense.
I never tire of advising that persons who do not have much to invest initially, or who do not have the time or expertise to address investment issues, are best advised to go the route of the unit trust. The funds are diversified, and there are many of them, so there is scope to select what you may consider the most suitable ones for your purposes. But you need to understand them and be prepared to commit time to research the various options and make the best selections.
Take your time. With time, it is conceivable that you may learn that you are not as risk averse as it appears, so you could soon be comfortable with the instruments better able to give you great returns which, incidentally, are the ones more likely to give you really bad returns.
– Oran A. Hall, principal author of ‘The Handbook of Personal Financial Planning’, offers personal financial planning advice and counsel. Email finviser.jm@gmail.com
Leave A Comment