What is the best investment strategy?

Date Published:10/01/2008

The answer is the one that gives you maximum returns with zero risk….. If only life were so simple!

Many investors will stumble into a number of pitfalls:

  • They are unable to develop an investment strategy.
  • They don’t know the required level of return to meet their objectives.
  • They chase last year’s winner.
  • They don’t understand the risk/reward relationship.
  • They never properly assess their own investment risk tolerance.
  • They don’t fully understand the nature of what they are investing in.
  • They don’t obtain real (after inflation) returns.
  • They ignore costs and taxes.

Having now dealt with a good financial and life planner, you can easily work out your investment strategy as you know where you are going, when and how much money is needed.

You will also need to undertake some investment risk tolerance analysis. This should not be you selecting a number between 1 and 5, or picking a risk tolerance description ranging from low risk, through medium risk and progressing on to high risk.

The best method is a questionnaire covering your views on various scenarios, leading to a scientifically validated risk tolerance analysis.

Be sure you obtain real, after inflation returns from your investment portfolio.

Be very wary of looking at past performance figures and statistics. We all know the quote, attributed to Benjamin Disraeli, “There are three kinds of lies: lies, damned lies and statistics.”

It is easy for investment managers to select the performance data from a period that puts them into the best possible light.

Don’t follow the crowd. As amazing as this sounds, the majority of investment managers actually get it wrong. There is an enormous mountain of research that is ignored by a very large number of advisers. I’ll write more about this next time.

Diversification is absolutely vital. This is best summarised as, ‘Don’t put all your eggs in one basket’. I would go a little further and state that the greater diversification the better.

You will now have a mix of investments so that you have cash to cover expenditure over the next 12 months, Fixed Interest investments to cover expenditure between years 2 and 7 and risk based investments such as Equities (Shares) or Commodities to cover expenditure over the period beyond 7 years.

This should all be constrained by your overall investment risk tolerance with adjustments made to take account of this.

Rebalancing is vital so that you always hold your ideal mix of investments. Quarterly rebalancing unless a 10% tolerance level is breached is best. This enforces the optimal, buy low; sell high, strategy.

If your investment strategy cannot provide you with sufficient returns to meet your objectives, you must have a discussion with your adviser to discuss the options.

On top of all this, make sure you understand all of your investments and ensure that you do not pay excessive fees and taxes on your profits.

I’ll discuss fees further in the future.

Next time I will discuss, ‘Why is passive investing better for investors?’

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