FP Article 9

What Is Investing?

by Rajen Devadason

Always invest for the long term.

Warren Buffett 

You see, in the realm of saving and investing there is something called the risk-reward relationship that almost always holds true. That's why the more investment risk you choose to take, the greater the potential (though not guaranteed) return you might earn. The downside is that in investment science, the English word 'risk' really means volatility. Murphy's Law has a tendency to apply in a big way in this arena, meaning just when you most need to liquidate your holdings to raise some cash, you're likely to find your investments have dropped the most precipitously in value. That's why you should always put savings in place first before embarking upon any investment spree.

A good way to distinguish between savings and investments is to look at the inherent price volatility of the underlying instrument.

If it doesn't fluctuate, you probably will only earn a low interest rate on it. The good news is at least you'll know with a high degree of certainty that what you've put into such a savings instrument will be there when you want to pull it out.

If, on the other hand, the instrument you park your funds in does fluctuate, either moderately or insanely, you're looking at an investment, at best, or a dangerous speculation, at worst.

Way back in 1997, in my very first book, Your A-Z Guide to the Stock Market - and all you need to know about capital terms, I described the act of investing in this fashion:

The reallocation of cash flows over time with the aim of enjoying capital appreciation and increased future income flows.... Because of his willingness to forgo the 'good things in life' now so as to have money to invest, an investor is making an attempt to have even more of those good things later on.

If you have never seriously and consistently invested before, I urge you to begin the process of learning how to do so wisely before you embark on any actual large scale commitment of hard-earned capital. Investors understand the meaning of sacrifice and delayed gratification. As Timothy W. Cunningham and Clay B. Mansfield wrote in their outstanding book Pay Yourself First - a commonsense guide to life cycle retirement investing, "Investment capital is created by not spending everything we earn."

Even more importantly I hope you will take the time to ask yourself the question, "Why should I transform myself into an investor?"

While you invest significant mental resources grappling with that knotty, potentially life-altering question, I suggest you start saving first... in a 3-S fashion - small, slow and safe.

If you've never saved any money before, don't shock your system to such an extent that you end up throwing in the towel before you seriously clamber into the 'wealth accumulation' ring!

Instead, I suggest you set aside a small amount of money from your weekly or monthly earnings. Start slow. Put it away safely in a bank account. Increase your rate of saving on a consistent basis, perhaps by just 1 percentage point of net earnings every three months. It doesn't sound like much but if you can do that, you'll raise your personal savings rate by 4 percentage points in a single year.

The advice that I give my financial planning and investment clients - in Malaysia, where I live - is to set a long range target to reach a 40% to 50% 'savings' rate within the next 10 to 12 1/2 years. (That may seem like a very long time to you, but time flies by ever so quickly! Wouldn't you rather reach 'maturity'- before 'geriatric creakiness' sets in - as a dignified person in great financial shape rather than as a dried husk of a financial wreck?)

If you answered yes, you should aim to gradually shift a portion of your growing savings into investments - once you've learnt enough about them!

There are numerous instruments you can use for this purpose. I won't bother to touch on exotic instruments that are too complex for me to understand and too dangerous for most of my clients to dabble in.

Instead, here are some basic bread-and-butter suggestions that have the potential to make you seriously wealthy, if you exercise patience and are willing to invest for the long haul.

The primary savings instruments I suggest my clients use are bank savings accounts, bank fixed deposits (or certificates of deposit, CDs, as they are know in the US) and money market funds.

The investment instruments I have seen my clients use with great effectiveness include bond funds, equity funds, real estate investment trusts (REITs), high-dividend yielding stocks, and rental property.

Neither list is comprehensive.

Nonetheless, if you haven't even begun the process of making investing a way of life, those instruments I've listed here will keep you busy over the next few years - first learning about and then buying intelligently.

You won't need to go beyond such instruments to achieve financial freedom, unless you want to and have adequately prepared yourself to do so in the decades ahead.

What you do need, however, is a burning desire to rewire your mental pathways so that a decade from now, should someone ask you, "Hello, what do you do?", your immediate reaction will be:

"I'm an investor. What about you?"

© Rajen Devadason