Investing for Wealth Creation: Part 1
Before proceeding, let us consider the distinction between saving and investing. People often confuse investing with saving when the two are fundamentally quite different – when you save, the objective is simply to maintain the sum saved for when next you have need of it; investing, however, entails an active effort to increase the original sum of money. Saving money is great for emergencies, short term expenditures and day-to-day management of your affairs. When tackling the big gorillas in the room, however, such as your children’s tertiary education, or your retirement, investing is not only beneficial but necessary. Without it, unless you are already quite wealthy, it would be very difficult for you to set aside or save sufficient funds to successfully navigate these major life events. Now that we understand the need to invest, the next step is negotiating what appears to be the investment maze.
Types of Investments
Today it seems like there are a myriad of investment options out there and they can appear quite confusing. The basics, however, remain the same: there are four main investment asset classes 1) stocks 2) bonds 3) commodities and (4) real estate. Some may also argue that art and collectible items are a 5th asset class but this is a very specialized class.
Stocks represent an ownership interest in a company. You would expect stock price appreciation over time as the company grows as well as, perhaps, some dividends or surplus income generated by the company to be paid to you from time to time. Bonds, on the other hand, represent a loan made by you to either a company or a country and here the expectation is that you will be paid the agreed interest on the agreed dates and upon maturity of the bond, the monies loaned will be repaid to you.
A commodity is any asset that is widely utilized as an input into other products but on its own exhibits little to no differentiation (i.e. iron ore mined from any part of the world is the same). Commodities therefore influence the price of pretty much everything that we use —from cars to kitchen utensils—and represent the outcome of the global supply/demand dynamic.
Real estate represents any property, whether residential, commercial or land and is generally held for price appreciation as well as rental income.
Mutual Funds are pools of one or more of these four asset classes that allow investors to easily access a greater range of investments than they could on their own.
The Importance of Starting Early
When it comes to investing, the earlier you start the better because then your investments have more time to grow. Time is an investor’s best friend. For the average investor who is investing for a medium to long-term goal, I favour stocks as they are easy to invest in, and do not require large sums of money to get started. All you need is a good broker and a commitment to yourself to invest a small amount (whatever you can afford) consistently. Whether you chose to buy stocks directly or via a mutual fund – the key remains to be consistent. As an example, when I started working, each paycheck I got, I committed to buying 25 shares of “something” – some stock or mutual fund that I felt held long term value and potential and, of course, it didn’t hurt if it paid a good dividend as well. It was a very small start, but over the years it grew and has served me well – even with a couple recessions, a “Tech Bubble”, a “Financial Crisis” and now whatever you may want to name our current circumstances (I personally like “Wine To the Side” or “Bend and Don’t Come Up”). Whatever we term it, the important thing to know is that even in the worst markets there are always opportunities. Indeed the best opportunities often come out of dire situations.
Investing for Wealth Creation: Part 2
In the first of this two-part article, I made the distinction between saving and investing (the former maintains the sum of money saved, while the latter increases it) and gave an overview of the different assets available for individuals and institutions to invest in. I also advised of the importance of starting early, being consistent and looking for opportunities even in the worst of situations. Now that we have that foundation, let’s consider how to go about building your portfolio of investments.
Building a portfolio
The best place to start is by first thinking about the things that have the most potential to impact you negatively. Besides growing your wealth, investing can also provide you with a cushion against negative events.
For example, most of us in the emerging world have had a constant battle with inflation. Whether it be through food or energy costs, or both, inflation has been the silent killer of many a West Indian. Thus, when putting together an investment portfolio, it is useful to include investments that benefit from rising inflation —such as commodities themselves— or companies that produce and trade in commodities, generally those in the Materials and Energy sectors. This will serve to counter-balance the impact of inflation on you –while your bills are going up, you’d be able to take some consolation in the fact that the value of your investments will be going up as well.
Another negative but largely unavoidable consequence of our modern lives is that of poor health. While significant strides have been made in terms of increasing the length and quality of our lives, it all comes at an ever-increasing cost and very few persons are lucky enough to avoid ill health at some point. Health Care investments are therefore a great addition to any investment portfolio and indeed should form a part of your core holdings. From companies that focus on Research & Development, to manufacturers of drugs, to makers of surgical equipment and medical products – our quest to live longer, healthier lives will continue to support the growth and profitability of these companies.
Thirdly, focus on products and services that you think are cool. What are the things you buy or want to buy? Chances are if you think these products and services are great, a lot of other people do as well. So, for example, my children are perpetually pestering me for the latest iPhone, iPad, iTunes, you name it – put an “i” in-front of it – and they want it. Frankly, I feel a lot less guilty giving in to these requests knowing that I have allocated some Apple Inc. shares to their respective “University Funds”. Hey, if you can’t beat them, join them right?
Timing is everything….. OR is it?
True, you never want to buy at the top of a market. Even on this point, however, it is important to note that with a world in a constant state of flux, it is very unlikely that all investments will be universally cheap or expensive at any single point in time. So even in a strong market, you can still find good bargains and in a weak market, there are still investments that you should avoid no matter how low the price goes. The key here is to do your homework. Find out more about the company, evaluate their track record, look at the stock’s pricing history, pick a good entry point and wait for it to hit. You should also have a couple names on your “hit list” so that you can still be consistent in building your portfolio without having to worry about buying at a relatively expensive price.