moneyFYI
Financial Freedom Is Merely Organized Common Sense
How Do You Invest To Get Best Value
People often fail to get investment in the right perspective. Money is for using and it is just part of what is important in life. Some people get caught up in growing thier money and forget to live the rest of their life. Investing then becomes a balancing act. How to get what you need to live as you wish with adequate security.
There are two difficult areas of study:
- Knowing what to do
- Knowing how to do it
A portfolio requires more than investing money
Managing your portfolio is not child’s play. It takes time, and effort for research to make it work. You need skill to do the research and must accept risks that more skilled operators would overcome. Then there is reporting and deciding on the components in the protfolio.
It will pay to understand style, essentially the theme of your portfolio. The common style choice are:
- Active investor or passive
- Growth or value
- Large capitalization or small
- Foreign or domestic
- Diversified or concentrated
- Tax senstive or not
There is no “right” style. There are styles that fit you given your time line, your ability to tolerate risk, the yield you need to achieve your goal, any special knowledge you may have, how you have to explain it to others in your family, and your views on ethical investing.
Other than money, know the resources you can invest or results you need:
There are at least thirty of these factors. Here are the more common:
- Your tax structure will influence your choice of investment. If you are in a very high tax bracket, interest will tend to be unattractive. Capital gains will be attractive, and dividends somewhere in between.
- Guaranteed or market priced. People who provide investments with a guarantee, banks for instance, pay less because they input more.
- Your risk tolerance will matter. Many people think they are risk tolerant until they experience a loss. Then they don’t like it at all. You will need to discover who you are on this metric and then work out ways to manage the risks. Risk tolerant and loss tolerant are different
- Does the investment need to be liquid? If yes, the choices are narrowed and the yield will be lower.
- Must there be a secondary market for what you invest in. If no, the investment is riskier.
- Are there non-monetary factors to consider. Some people won’t invest in oil companies, tobacco companies and some others because of their ethical standards. Some other people like fashionable investments. Maybe a popular product or a new and unproven business.
- Is the investment available. Most people cannot access IPOs in the first hour. Some bonds are too big to buy. Real estate may be outside your spending ability.
- Don’t forget to deal with things you understand. That requirement often eliminates huge swathes of possible investment.
- Are there fees and other cost you would prefer to avoid.
Choosing a way to invest.
You must first come to understand yourself. Once you have an idea of your risk tolerance, any limitations or special strengths, your time frame, and your yield requirement, you can begin to think about assembling a portfolio.
Active, self-directed investing is best left to those who know how. Warren Buffett has said it as well as anyone. “Risk is what happens when you don’t know what you are doing.” You will see that market fluctuations, even very large paper losses only cost you if you sell. What Buffett is talking abut are permanent losses. Money that does not come back.
In the beginning, and likely forever for many, self-directed investing is a poor choice. Knowing how is a requirement.
As with most things in life, if you don’t know how, you should know who.
Unfortunately, switching management and the other costs to someone else has a clear price. Do-it-yourself has a price too. It just isn’t as visible.
Choices for investment management
Understanding the cost and value structure matters.
There are several ways to go:
Index funds. These are easy to find and inexpensive to own. The fund does the accounting and the investments are defined by the index used. They will not be all stars but they will tend to produce an investment yield that matches the growth and fabric of the economy taken as a whole. That’s where you are going to live in the future, so matching investments with life is not a bad choice.
Exchange traded funds (ETF) These funds are a bit like an index fund except the ETF manager decides what their particular limits are. They are usually much narrower than an index. For example, junior oil stocks, or junk bonds in the US, or hight tech. There are thousands of them so they are almost like picking stocks.
Investment funds or mutual funds
These tend to be higher cost than the passive investments, but you must look for value as well as assess costs. The price is not always a good indicator of value.
What do you get for your money? You get investment selection, accounting, reporting, and in many cases an advisor who helps you relate to the investments. That last one is a hard one to value. If all they ever do is keep you ontrack and motivated, they are good value.
Hedge Funds
A fund where the managers use more volatile methods to spike their yield. Could be computer programmes, derivatives , leverage, or short selling. These funds usually charge a fee of some percentage plus a share of the profits.
What is it worth?
The question of what are the investment managers worth is not hard to assess. If they make more than they charge for the service, they are cheap. If they charge more than the extra they make, they are expensive. By price, the most expensive fund in the United States is Reliance Technolgies, a hedge fund set up by academics with almost no investing experience. They charge 5% of assets plus 25 % of profits. Over the last 30 years that has averaged over 26% of assets annually. Expensive? Maybe not, Over that 30 years the average return to investors is 39% after fees. If anyone wants to make me 39% annually for 30 years, I don’t think I will care how much they charge to do it.
The key is to notice price is not the key variable. It never is. Price is part of cost and cost is what you compare to value for the decision. If do-it-yourself has a price of near zero but when you consider other costs like time committment, risk arising from being unskilled, and emotional conflicts, the cost may be quite high. Always compare cost to value.
As you grow
If yu begin passively and learn enough to be more active, you could have a share of yur portfolio that you manage and the rest of it just ticking along in the background. Some people like to dabble with five or ten percent of their money. It is the way to learn.
You can get a sense of how it works if you study what managers are doing when their style is similar to your own.
I help people understand and manage risk and other financial issues. To help them achieve and exceed their goals, I use tax efficiencies and design advantages. The result: more security, more efficient income, larger and more liquid estates.
Please be in touch if I can help you. don@moneyfyi.com 705-927-4770
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