Want to do, don't be scared
Investing is risky!
Investing is a risky business, make no mistake about that. Whenever you invest your money in the stock market, commodities, foreign exchange, derivatives, money market instruments, unit trusts, etc. There is a risk that you can lose EVERYTHING. But that is life! Risks abound in every thing we do. Even if we do nothing, i.e. park our money under our pillow in a milo-tin, there is still the risk of inflation eroding away the value of our savings. Currently, with inflation forecast to around 1-2% this year and average bank savings rate of 0.25%, your bank savings now earns you the grand return of........NEGATIVE 0.75 TO 1.75% per year.
That means the purchasing power of our money is being destroyed slowly year by year as the banks take our money at 0.25% for savings and invests it in higher yielding (and usually more risky investments) assets that earns money for the bank and its shareholders.
Why are many of us so risk adverse?
Human beings do not like risk. Most of us want to live peaceful lives, with some degree of predictability and a little dose of excitement too but not so much to stress us out. This spills to some extent to our own investing lives. We want investments that have some degree of predictability in returns and yet doesn't have the volatile swings in price that on one day gives us paper gains and on another day gives us paper losses. We want our investments to be safe, to give us high returns, to make us financially free.
Our risk adverse nature could be due to us being more educated about how a fool and his gold are soon parted. As a result, the need for capital preservation (i.e. don't lose your savings) overrides the consideration for obtaining reasonable returns. But, the reality in investing is that..... THERE ARE VERY FEW INVESTMENTS THAT GIVE YOU HIGH RETURNS FOR LOW RISK. Either it is illegal e.g. insider trading tips on market sensitive news or you have the capital and clout to structure unfair investment deals and sell it to the unsuspecting small investor.
Hence, in order for us to realistically get a better return on our investments to at least beat the rate of inflation, we have to accept SOME risk in our investments. I am NOT advocating that you run off to the nearest Singapore pools outlet to punt on this weekend's English Premier League Matches or to buy a system-7 ticket for TOTO. Rather, I am advocating that we re-examine our approach to the risk-return trade-off and make an informed choice on which part of this risk-return spectrum we want to be.
Re-examining our investment mindset
In general, the higher (potential) returns you want, you will have to accept some degree of higher (potential) risk. Therefore, the tried and tested route of investing in fixed deposits and treasury bills will only barely keep you up with inflation as fixed deposits and treasury bills are giving a return of approximately 2% to 2.5% (depending on amounts and tenure of your principal amounts) around Oct 07.
To be able to beat inflation comfortably, we need to look at history. If you look at historical trends about stock market performance, the S&P500 has consistently been shown in the long-term to beat inflation and money-market instruments like time deposits (fixed deposits) and treasuries. Thus, one of the realistic ways for us to grow the purchasing power of our money in a consistent manner is to participate in the stock market.
Investing in the stock market
Stock market investing requires effort, discipline and understanding yourself. If you are a long-term investor and go for quality shares that are in stable or growing businesses, pays dividends and are held by institutions, you have a higher chance of protecting your capital and yet reaping the benefits of growth of the equity (stock) market.
Buying and holding stocks is not for everyone. As a general principle, most investment books recommend that you invest monies you can afford to lose. You should continue to have 3-6 months buffer in cash and cash equivalents e.g. savings, fixed deposits and treasury bills/government securities and consider parking spare cash you can afford to lose into the stock market. Stock selection is another topic by itself altogether although my general rule of thumb is to use dividend yield as one of the main factors to look out for in evaluating stock picks. My take is that if the dividend yield at the current price beats fixed deposits, CPF returns etc, then there is a higher chance I will invest in that stock compared to others, ceteris paribus. But of course, there are so many other factors to consider in stock picks such as future cashflows, growth prospects for the company's business, quality of management, general economic indicators that can affect the performance of the company and thus its share price.
Caveat Emptor (Let the buyer beware)
Investing in stocks IS RISKY. There is a real chance of capital GAINS, there is also a real chance of capital LOSSES. To completely ignore the equity market is to lose out on one of the avenues for investing. You will not lose anything but you will also not gain anything. Putting some of your investible savings into the stock market risks some of your money. Stock markets can collapse and be in bearish cycles for a long time, e.g. 1997 Asian Crisis, dot.com bust in 2000s etc. If you have holding power and pick quality stocks, you can participate in the upturns while riding out the downturns.
You have to decide what is in your best interest for nothing ventured, nothing gained.
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