points by bushido 12 years ago

After rewriting my response 3 times I decided to lay out some basics.

basics

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a. The most common fallacy in investing is that higher risk equates to higher returns.

b. Any half decent investment strategy should have a solid risk management strategy, should account for (and discount) inflation and should have a strategy in place to emulate dollar cost averaging (most commonly by scaling into investments from a cash position or using a re-balancing strategy). Risk management (and discipline to follow it, being the most important).

c. Different sources of returns are taxed very differently, for example: most non-govt interest income is taxed at the marginal tax rate, so if you're at 30% tax rate, 5% interest is actually 3.5%.

Then to be safe deduct the inflation, if the inflation is 2%, the real rate of return is 1.5%.

d. The next thing to consider is the goal of return. Is it geared towards income or growth(compounding).

e. If you are looking at percentage return it implies that you want growth. But that may not be the case. If you instead want an income of $50000 the whole situation changes, even though the value is the same. Simply because, if your investment loses 10% value now your 900k requires a 5.555% return to net the same $50000. I have seen and know a lot of people who went bankrupt for not understanding this, the bigger problem is I know more financial professionals who don't understand the distinction.

example scenarios

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1. If the goal is income, the strategy should be funneled to account for recessionary periods, market corrections etc. I can explain a funnel in more details on request.

2. If its for growth and you want to get a higher return with lesser risk a leveraged risk reduction strategy can be employed. Can explain further on request.

3. For people older than 45 (preferably older that 55) an Insured Annuity is also an nice option when Income is the goal. Even better if they are not healthy (higher mortality risk, higher return).

Before doing anything a good amount of reading(books) would be ideal, start of with:

a. The richest man in Babylon(fiction) - read first, no particular order after this

b. The Ivy Portfolio

c. The intelligent asset allocator

d. The permanent portfolio

e. The Investor's Manifesto: Preparing for Prosperity, Armageddon, and Everything in Between

f. Value Averaging