19. HOW DO YOU MAKE YOUR HARD-EARNED MONEY WORK HARDER FOR YOU IN ALL ENVIRONMENTS?
"The most important thing you can have is a good strategic asset allocation mix. So, what the investor needs to do is to have a balanced, structured portfolio - a portfolio that does well in different environments. We don't know that we're going to win. We have to have diversified bets." -- Ray Dalio
You have worked hard at your nine-to-five job to maximize your potential income. You have also saved hard by simplifying your life with delayed gratification and frugal living. Now it's time to think of how to protect your money from inflation and how to make your money work harder for you through diversified investments.
Disclaimer: I am not a certified financial planner, adviser. I’m also not an investment expert. What I would like to share with you is purely my personal humble investment experiences and mistakes.
Achieving financial independence and time freedom is not only for the billionaires. I want to demonstrate to you and to encourage you that if a regular nine-to-five wage earner and risk-averse person like myself can slowly but surely achieve financial independence by 50 to live life fully, so can you! You can definitely make it happen for yourself too!
Do take note that whatever I share here should not be taken as constituting professional advice. You should consider seeking independent financial advice for your own investment.
What determines what you will invest?
You may ask this very fundamental yet complicated question, "What types of investment shall I invest in?"
1. Risk appetite and age
It really depends on your risk appetite and age. The higher the risk, the higher the rewards. The lower the risk, the lower the reward. The younger you are, the more you can swallow any higher risks. Your general appetite for higher returns is generally bigger if time is on your time. You can afford to take the risk. If your investment portfolio fails or doesn't give you your expected returns, you can sit on it or reinvest. Over time, you shall still do pretty well. If you are already fifty years old, you don't want to take so much risk with your hard-earned money. You might not have the time to rebound in the event of the downfall.
2. Personality and preference
Besides your age and risk appetite, I feel that it also depends on your personality and likings too. You may not like the analysis and numbers part of stock investments. You may feel that it's just some paper money. Something you can't physically feel and you can't see. You may also feel that it's too risky as it may give you heart attack from the volatile fluctuations of the stock counters and share prices. You may prefer brick and mortal - something you can see and feel. Something that makes you feel more secure and at ease. Property will be the most common investment if you prefer bricks and mortals.
How about me?
When I was younger, I was very ambitious and I felt like I had years ahead of me. I wanted to make high returns on my hard-earned money. However, my timidity and risk averse nature held me back. I was so afraid to lose all my hard-earned money.
Therefore, my focus has always been to save as much as I can because that's within my control.
I invest in some asset classes that I'm comfortable with, not with high risk returns but reasonably safe with decent returns. I want to be able to sleep at night with peace.
You may say that I'm overly conservative in my investment. I must also admit that I'm risk averse. In this world, not everyone is a high risk taker. Not everyone can maximize their financial returns.
My path to financial independence is quite a "safe" and "sure can do" path by millions of people out there. It doesn't take any rocket science to make it happen. That's the beauty of it! As long as you can generate decent returns from your investment, albert probably being slower by a few years, you will still be able to achieve your financial independence and time freedom to live a full life.
Four main investment types
When dealing with which investment basket you shall put your hard-earned money into, it's essential to understand the different asset classes in investments.
What is an asset class then?
It's actually a collection of investments that share the same characters, risks and benefits. How they behave in the market place, what their purchasing processes are like, and how the government regulates them are some of the areas which they share similarities.
Today, financial professionals generally agree that there are four main investment types, or four classes of assets. They are:
1. High risk growth investment: equities / shares / stocks
Also known as equities, shares may be the most well-known and simple type of investment. When you purchase a stock, you are buying shares, or in other words, purchasing ownership in that public-traded company's earnings and assets. Companies sell shares of stocks in their businesses to raise cash. Investors can then buy and sell those shares among themselves.
Many well-known companies like Maybank, Tenaga Nasional, Public Bank Berhad, CIMB Group Holdings, Top Glove, Hartalega, AirAsia, Genting, and many others that you see them in the news are publicly-traded companies in Malaysia. That means you can buy their stock and own a part of the company.
For example, if a company has a total of 1,00,000 shares and you buy 1,000 shares, you own 1% of the company. As part-owner or shareholder, you have rights to a portion of a company's profits.
These are usually paid out to investors in the form of a dividend as regular distributions to the shareholders. As to how much the dividend amount is paid out, it varies by company. Some companies may not pay high dividend but rather they choose to use the dividends to reinvest back into the company for growth.
Stock investors mainly make money when the value of the stock they own goes up and they're able to sell that stock for a profit. Of course, the value of shares may also fall below the price you pay for them. Some companies may lose value or go out of business. Share prices can be highly volatile from day to day. It's really not for the faint-hearted.
Although stocks are generally lumped together, the same investing principles should not apply to them as a whole. For instance, investing in a hyper-growth start-up is very different from investing in a blue-chip stock that has been around for decades. Another example would be dividend-focused stock investment for regular distribution is also very different from growth-focused stock investments where you will gain profits most by selling the shares at a price higher than your purchased price.
As you can see, stocks sometimes earn high returns, but also come with more risk than other investments.
Generally speaking, shares have historically delivered higher returns than other assets though. In fact, shares are considered as one of the riskiest types of investment. It's also considered a growth investment as they can help grow the value of your original investment over the medium to long term.
This high-risk growth investment type is best suited for long term investors who can withstand the ups and downs of market over years.
2. Medium risk growth investment: real estate and tangible assets
Any investment assets that you can physically see, touch and buy - they are grouped into their own asset class called tangible assets.
Commodities like precious medal (gold and silver), livestock, agricultural products (palm oil, wheat, barley and corn), energy products (oil, coal or solar power) also fall into this category.
Commodities investing runs the risk that the price of the product will go down quickly. A political landscape change or a trade war can greatly change the value of something like oil. A long dry drought can impact the value of agricultural products.
However, the most popular and common type of tangible assets that people own is real estate or property.
Real estate is also considered as a growth investment because the price of houses and other properties can rise substantially over a medium to long term period. However, just like shares and other tangible assets, property can also fall in value and carries the risk of losses.
It's noteworthy to point out here that it's possible to invest directly by buying a physical property or also indirectly through a property investment fund (R.E.I.T. real estate investment trust fund).
Despite the potential downturn risk, generally speaking, these types of assets - real estate and tangible assets - can withstand periods of inflation. They are classified as medium risk growth investment.
3. Low risk defensive investment: bonds / fixed-income and debt
The best known type of fixed interest investments are bonds, which are essentially when government or companies borrow money from you and pay you a rate of interest in return.
Whenever you purchase an institution's bonds, you are essentially becoming money lender to that institution (government or company). That's why bonds represent debt. In return for this loan, the government or company promises to pay you interest on the loan in the form of periodic payments. These interest payments are paid to you and other bondholders throughout the life of the bond. At the end of the term or maturity date, your principal will be returned as well.
For example, if you buy a RM10,000 Malaysian Ringgit bond with a 5-year term at an annual interest rate of 4%, you will then receive RM400 every year for 5 years. Upon maturity at the end of the five-year period, you will also get your principal RM10,000 back.
Bonds are generally considered as a defensive investment. They are also considered safer than stocks.
However, they generally offer lower potential returns and lower levels of risk than shares or property. If there is any risk at all, it could be that the bond issuer could default the loan. A company that borrows money from you can potentially go bankrupt or unable to pay you the promised interest and principal. But if it's the government bonds, meaning it's the government that's borrowing money from you, then you are pretty safe with virtually no risk. It's unlikely that Malaysia can go bankrupt with such rich resources of nature, etc.
The safer the bond, the lower the interest rate. Bonds can also be sold relatively quickly, like cash. But do take note that they are not without the risk of capital losses as well.
4. Very low risk defensive investment: fixed deposits / cash / money market
Have you heard of "cash is king"? Cash is any money in the form of currency, both local and foreign. Cash investments include physical bills, cash you have in your regular bank accounts, high interest savings accounts, current account and term / fixed deposits.
If you are not familiar with what fixed deposit is, just think of you giving the bank a certain amount of money for a predetermined amount of time. The bank will then use this money to invest in business or other investments to generate higher returns for the bank. When the time period is over, you get your principal back, plus a predetermined amount of interest. The longer the loan period, the higher your interest rate. But usually interest rate for any period longer than 12 months tends to stay stagnant.
According to Perbadanan Insurans Deposit Malaysia (PIDM), "All types of depositors, whether businesses or individuals, are protected. The maximum limit of coverage is RM250,000 per depositor per member bank. This includes both the principal amount of a deposit and the interest/return. With the RM250,000 limit, 97% of depositors are protected in full. The Malaysian Deposit Insurance System provides separate coverage for conventional and Islamic deposits. Deposits eligible for protection are: savings accounts, current accounts, fixed deposits, foreign currency deposits, Islamic deposit accounts, bank drafts, cheques, other payment instructions or instruments made against a deposit account."
This means that even if your bank were to collapse, you are still covered up to RM250,000. Literally speaking, there are no major risks to fixed deposits.
That said, you need to make sure you don't need the money during the term of fixed deposit period. Any early withdrawals might incur major penalties, including lowering your earned interests.
For cash investments, they carry the lowest potential returns of all the investment types.
They are more focused on consistently generating regular income, rather than capital growth. Having said that, even without any capital growth through cash investments, they can play an important role in protecting wealth and reducing risk in an investment portfolio. The common phrase "cash is king" doesn't come by without any reason.
5. Other types of investments
There are other types of investments as well, namely options, peer-to-peer (P2P) lending, cryptocurrencies, etc.
Cryptocurrencies are digital currencies that don't have any government backing. You can buy and sell them on cryptocurrency exchanges. Cryptos often have wild fluctuations, making them a very risky investment. Out of which, I believe the most famous is Bitcoin, classified under cryptocurrency. It’s also a hot investment topic. You hear of investors making tons of money as well as losing tons of money.
As I am a risk-averse type of investor and my focus here is to assure you a consistent but a sure way of retiring early through calculated risk management, I will not cover or elaborate much on cryptocurrencies, options, or peer-to-peer lending. These are also not the topics I’m familiar with. I will focus only on the four main investment types.
Investment diversification
An asset allocation plan is based on your personal circumstances, goals, time-horizon, and need and willingness to take risk. And you should have a strategic asset allocation mix that assumes that you didn't know what the future is going to hold.
Once you are familiar with the four main investment types, you can then begin to think about creating a mix of investment portfolio involving all these four asset classes. If your portfolio includes investments spread across the four asset classes, it's then considered balanced.
By choosing the right asset allocation you can diversify your assets thereby creating a more balanced and less volatile portfolio. For instance, you may have 30% of your investment portfolio in equities, 20% in bonds, 20% in fixed deposits / cash, and the balance of 30% in real estate and tangible assets. This is rather a balanced asset allocation - splitting your investment pie into 4 pieces.
As to what's the percentage in each asset class, it varies largely according to your personal circumstances, risk tolerance as well as your age. Everyone is different and there isn't a "one size fits all" asset allocation.
This balanced investment portfolio or rather asset diversification helps to reduce risk while maximising return.
If your investment portfolio is particularly heavy in one asset class and that investment type underperforms for some reason, you could be in trouble - perhaps in short and mid-term, and potentially long term too.
Please always bear in mind that when it comes to investing, there are no guarantees. What was such a sure thing today may no longer be a sure thing tomorrow. Even the greatest genius or Warren Buffet can't predict how the market is going to behave tomorrow.
Covid-19 pandemic can turn the whole world upside down in 2020. And the deadly virus was never in the radar of any scientists, data analysts or stock investment gurus at first place.
Thus, the main important thing is to continue growing your net worth through the ups and downs.
Your purpose is to stay diversified.
Remember - you are building your retirement fund. Stay focus on your objective. Your objective is to achieve financial independence and time freedom. Meanwhile, you can't be greedy. You can't be too emotional. You need to take it one step at a time. And it's supposed to be long-term.
By spreading your money out over several different asset classes or investment types, you can then greatly increase the chances that your portfolio will survive even the worst economic downturns over the years. This will then assure you that you will eventually achieve your financial independence one day.
SECTION 4
Make Your Money Work for You
“Either make your money work for you or you will always have to work for your money.” -- Marshall Sylver
F I L L
Financial Independence, Live Life
achieving financial independence from 9-to-5 job before 50
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