As the global landscape of investments has entered into a new era, investors are trying to find a stable point of reference in terms of forming and selecting a successful strategy. The way people used to invest in the past has been changing at a faster pace in the recent years. In a Big Data world where algorithms gain substantial importance, the traditional economics of investments and the creative rules that investors used to live by, are often be questioned.
That said, there are some principles the average investor can make use of that will greatly improve their prospects for achieving sustainable and reliable gains in the market. This advice is to investing what instructions on how to block and tackle are to football. They are the fundamentals. Without them, you won’t even get a first down.
Inflation and Taxes
Leaving aside the type of investments you choose, if your total return on those investments doesn’t exceed the combined effects of taxes and inflation, you aren’t going to make it to your destination. The ultimate measure of your personal wealth is less associated with your bank balance and more associated with your buying power. Doesn’t matter how much you make if you can’t buy more with it. Make absolutely sure your total returns exceed taxes and inflation. That piece of advice by itself will put you on a path to wealth accumulation.
Growth vs. Income
Growth is most important for younger investors, while income is the goal for veterans. The main reason this maxim holds is that younger investors have a much longer time horizon for acquiring valuable shares, while older investors are presumed to have already built their portfolios and no longer need to accumulate assets.
While income is certainly useful, for a new investor, it is important that as many gains as can be afforded to be used to acquire more shares or instruments, whether they are stocks, mutual funds or bonds. While these investment basics aren’t exhaustive, they can be used as the foundation of a long-term investing strategy that will replace hoping and wishing with the kind of ground game investors need for success.
Study the macro, start from the top
Always use a top-down approach to investing. First, know the overall macroeconomic environment of where you are going to invest. After having studied thoroughly the big picture, then you should decide on the industries that are of particular interest to your strategy. Finally, inside these industries, you will be able to identify and filter out the securities that don’t meet your criteria and keep the significant ones in your portfolio.
Asset classes aren’t made equal
Stocks, bonds, commodities and index products, all have their place in the business cycle. Adjusting how your asset classes are being allocated will primarily have to depend on the direction of the economy. Of course, there will be periods where you will have almost created an equiproportional asset class portfolio, but these phases shouldn’t keep long. Know well on which phase of the business cycle you are and decide either to increase or reduce your positions in the different asset classes.
Combine different approaches to analysis, based on the time horizon
The importance of the fundamental analysis is well-known to the investment community. It is the cornerstone for the valuation of securities and the financial analysis of their performance. It is certainly a field that will evolve in the coming years. As it will incorporate the transformational new dynamics that big quantitative data will have to offer, the short-term investor will also benefit. On the other hand, a technical analysis which uses trading charts and mathematical techniques to study and forecast the trends of securities will still play its role. An investor should use both approaches based on his investment time-horizon. This will determine to which extent each method is being employed each time.
Avoid unnecessary risk
Avoid taking an unnecessary risk for an expected return that could be still achieved by selecting less risky securities. This simple rule can come into effect when a solid investment plan is being maintained throughout the whole investment period. Risk and return constraints should be clear and monitored closely.
Be very selective on undervalued securities
Although identifying undervalued securities is the way to go, avoid investing into deeply undervalued securities as the expected returns may take a longer time to be realized or even worse not realized at all. This particularly holds true if you are dealing with securities of lower liquidity. Fundamentals may seem good, but trading volumes may show a “stay away” signal.