When I look at the kind of investment questions that people ask–on the Internet generally, and on Value Research Online, there’s an interesting pattern that can be observed. There are savers who think that investing is about investments and there are those who think investments are about themselves.
Let me give you two contrasting examples to demonstrate this.
Here is one real question:
“Is it advisable to invest in mid-cap and small-cap mutual funds in the current situation?”
“How long will the conditions remain favourable for such funds?”
Sounds like a perfectly reasonable question. However, contrast it with this question: “I am 40 years old but haven’t started saving for retirement, apart from the EPF deduction. When I retire, I will need Rs 75,000 a month….”, and then there are personal details that I will omit here.
While these are just questions that the two savers asked in emails to Value Research, I think it reflects their attitudes about investment in general. The first questioner thinks investing decisions are to be based on what’s happening in the outside world while the second one sees it as a way of finding solutions to the problems in one’s own life.
Unless you are a rich dilettante who is just playing around, the second approach is the right one. This may sounds like some new age wisdom, but the first thing that an investor must do is to `Know Thyself ‘. The reason for this is there is no investment that can be judged to be the right one without knowing who it is for and what the investor needs it for. There are great mutual funds and stocks which could be completely unsuitable for certain investors.
An investment can’t be judged to be the right one without knowing more about the saver’s life. However, it can certainly be judged to be the wrong one–there are a lot of investments that are always unsuitable for everyone, but we will talk about those later.
Conventionally, the first step to knowing yourself from a saving point of view is to decide your financial goals, the time frame in which those goals have to be met, and the flexibility of those time frames, and overlay a certain amount of tax-awareness on top of these goals. Then, for each type of financial goal, work out which type of investment is needed, and decide on the specific investments.
See the sequence here?
The first step is to analyse your own life. Then comes the goals, and then follows the type of investment. There are other aspects apart from the goals.
How stable is your income, and your spouse’s?
How’s your health?
Do you have any older dependents?
And so on. Believe me, knowing whether small-cap stocks are going to be `hot or not’ over the next six months is utterly unrelated to the things that are the real inputs to your life’s savings and investment decisions.
There’s another, even deeper aspect that requires you to know yourself. Different people seem programmed to suffer different amounts of stress and anxiety when they are invested in asset types that are volatile.This is partly a function of experience–of having been invested through a volatile period and then seen recovery.
Investment advisers are fond of asking their clients about their `risk tolerance’, but the answers are useless unless someone has had a real life experience of facing losses.
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