Investment Paradigms

There are some golden rules of investing which have long stood the test of time and which look set to continue holding true long into the future.  Here are three of them.

Fees and charges matter – a lot

It may seem surprising to put this rule in first place, but it is actually a massively important one and it is very easy to overlook, especially if you’re reading well-crafted sales literature which extolls the virtues of the product at great length before slipping in the details of the fees and/or charges when you are already convinced of the value of the product.  For the sake of clarity, there can be a case for paying high fees/charges, but high or low, you have to be confident that any fees/charges you are paying are (more than) justified by the returns.

Risk is a part of investing and playing too safe can be the greatest risk of all

Here’s a slightly unusual take on investment risk.  If you invest in the stock market, you may lose some, or even all, of your investment capital.  If, however, you hold cash in a bank account, then, in the current economic environment, you are practically guaranteed to lose some or all of your money, even if you do not notice it, because the interest you earn on your cash savings is highly unlikely to keep pace with the effects of inflation and that’s even if you keep them in an ISA to protect them from tax.  Here’s another somewhat unorthodox take on investment risk.  If you invest in the stock market, you know that you are not guaranteed to get your money back, let alone make any returns, hence you are motivated to pay attention to your investments and be ready to take corrective action if necessary.  If you leave your money in cash savings, you may think it’s safe, but that isn’t necessarily the case.  In the UK, for example, there is protection for savings of up to £85K per person per participating financial institution, but, generally speaking, anything over that is at risk if the institution collapses.  In Cyprus, savers woke up one morning to find that their cash savings had been raided by their government and while it would be nice to think that wouldn’t happen in the UK, but could it really be ruled out completely?  In short, it would be foolish to deny that the stock market has its risks, but it is also foolish to deny that cash deposits also have their risks.  In fact, everything in life has a certain element of risk and it’s up to each individual to decide for themselves whether or not the risk is justified by the potential rewards on offer.

Investment is about the long term

In principle, you can make money on the stock market through short-term trading, the old adage of “buy low and sell high” multiplied by however many transactions you can find to execute according to that principle.  In practice, however, that is rather harder than it sounds even before you factor in the impact of those fees and charges we mentioned earlier.  Even if you keep them down to an absolute minimum, you’re still going to have to pay something and when you’re working on the finest of margins, even the smallest of costs can have a large impact.  Investment, however, is about the long term and while it most certainly involves judgement, it certainly does not require financial genius and/or access to a computer with science-fiction-standard levels of artificial intelligence.  The main difference between a financial professional and an amateur investor is practice, not intelligence.