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Developing your personal ground rules
Developing your personal ground rules for investing
If you've read our other articles on Investing - where do you start?, you will have considered your personal objectives and checked if your financial situation would allow you to invest. You will also have read FIDO's tips on developing your own financial strategy.
No doubt you're eager to get started. Most successful investors set themselves a few ground rules to help them manage risks. Personal ground rules can help you stay in control. Here's three suggestions:
1. seek a reasonable return
2. stick to regulated markets, products and advice
3. invest only when you understand
1. Seek a reasonable return
What would you regard as a reasonable return?
FIDO suggests you aim for a return that's about as good as the overall market. Even that can prove difficult and challenging for the best investors.
Aiming for better than the market means taking on extra risk. If you know what those risks are, and can accept them, good luck. Otherwise, you're in for a nasty surprise.
How much is the market rate of return?
Let's talk about the real
rate of return, that is, the return after taking inflation into account.
Before reading further, guess the real rate of return over the past 100 years in the best performing class of investments?
FIDO's hint
Your guess may be too high, so remember we are talking about real returns, that is returns with the effect of inflation removed.
Over the past 100 years, shares proved the best class of investment. The world rate of return for shares was nearly 6% per year in real terms, based on 16 countries making up nearly 90% of the world's financial markets. Australia was the second best performer, ahead of the USA, with our shares returning a compound rate of 7.5% per year in real terms over 100 years*. To get this sort of return, you had to:
- follow a rough and sometimes painful road. For example, if you had bought a representative parcel of Australian shares for $10,000 in 1970, you actually lost money in real terms ten years later, with your money down to $9,540
- own a representative sample of the market, and
- held on for at least 20 years.
History makes no promises about the future, but it can give you a clue about what returns you might reasonably expect.
In FIDO's experience, people tend to expect returns that are too high. That sometimes leads them into investing in very risky schemes without realising it, and losing lots of money. If you aim for what's proved reasonable in the past, then you'll find it easier to spot risky investments that may not suit you. |
2. Stick to regulated markets, products and advice
These days you can invest anywhere in the world in just about anything.
So why stick to Australian-regulated markets products and services?
Because:
| 1 | You are guaranteed enforceable rights as an investor that can make a real difference. |
| 2 | Regulated markets, products and advice attract reputable companies and businesses that want good long term relationships with investors. |
| 3 | Unregulated markets and investments attract a lot more scams. Only experienced professionals with skill and money can sift out genuine opportunities and honest people from scams and crooks. |
Make it one of your basic ground rules to stick to:
- shares traded on Australia's authorised financial markets
- ASIC registered managed funds
- advice from ASIC licensed financial advisory businesses
- Australian Prudential Regulation Authority (APRA) or Australian Tax Office regulated superannuation funds and
- APRA approved deposit taking institutions.
For overseas investments, either use:
- an Australian licensed fund manager to select the markets and shares for you, or
- an Australian licensed broker or dealer to handle your orders, and choose markets with a track record of investor-friendly regulation.
In Australia, by law, companies offering you regulated financial investments must tell you everything you or your professional adviser would reasonably expect to know in order to decide if the investment suits you. Later, if anything goes wrong, they must offer you free access to an independent complaints scheme if you cannot settle your dispute with them. Read more about the laws that protect you.
Real estate investing comes under State and Territory laws that regulate advertising, contracts and the conduct of sales agents. Real estate is just another type of investment asset and most of our advice about investing also applies to real estate.
3. Invest only when you understand
Make an investment promise
Make a promise now that will last your whole life as an investor:
1. 'I will invest only when I understand'
In the world of investing you will find good, middling and poor quality investments. To protect yourself, make a habit of continually questioning what you hear and read. Expect to go on questioning and finding out more, even about investments you may have held for many years.
Now promise
2. 'I will always get a copy of the prospectus, product disclosure statement, annual report, contract and make time to read it.'
When you start reading them, you may feel frustrated. This is not your fault. A lot of these documents are technical, wordy and poorly presented. Over time, you will get more out of them. Getting information about a company.
3. 'I will always ask questions about things I do not understand.'
This is your basic right as an investor. If you do not get an answer, or if the answer does not feel right to you, don't invest. There are so many investment opportunities to choose from it won't matter if you say no.
4. 'I will always take my time.'
Some people think things over for a few days; others want a few weeks what to invest in. Take the time that suits you. One of the biggest warning signs about dodgy or doubtful investments is when salespeople push you to hurry up. The more they hurry you, the more checking you may need to do. Read more about defending yourself from hard selling techniques.
Understanding takes time and experience
- Build on your own knowledge and experience.
If family members or friends have invested for at least five years or so, find out what lessons they have learned. This is different from asking them for 'hot tips', which rarely help you understand, even if you are lucky enough to make money.
- Be prepared to learn a lot more as you go along, and give yourself plenty of time to understand what you are doing.
- Take small, simple steps first.
| TIP! | You could decide to invest only a small amount of money and hold the investments for at least 3-5 years, purely to learn, without worrying too much about gains or losses.
For example, you could buy shares in a few companies whose business you use or understand, simply to see what happens and compare first hand different annual reports, financial statements and other investor information. This is a good hint for any investor.
However this is an excellent tip for a young investor with just a thousand or so dollars to invest for the first time. |
*Source 'Triumph of the optimists', Dimson, Marsh & Staunton (3 academics from the London Business School), Princeton University Press, 2002.
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