“Investing is gambling,” say those who don’t invest. It can be, but if you follow a certain approach and stick to it vigorously, then investing is no riskier than anything else we do in this game called life.
Today, I focus on three tips. This is not meant to be an exhaustive list, but it’s a start.
Before we begin, remember some basic rules. Work out why you are investing. Are you looking to fund retirement, for example? Maybe your goal is financial independence, seeking to create a situation in which you work because you want to, rather than have to. Or maybe you are looking for income; if so, then this requires a quite different approach. My three tips only apply to investors with a long-term objective, and assume you have a diversified portfolio, both of which The Motley Fool strongly advocates.
Number one: diversify over time.
If you have a lump sum to invest, don’t immediately throw it all at the stock market. In the short term, stock markets are volatile and you could be unlucky and invest the day before, or even the year before, a stock market crash. Drip-feed your money into the stock market over two, three or even four years. If, on the other hand, you invest a little bit every month, then you automatically follow this approach anyway.
Number two: sell when the markets say it’s a good time to sell, not when you reach a target date.
You could be unlucky, and stock markets may crash the day before your target date. Pension funds try to reduce this risk by moving your portfolio into low-risk assets a few years before your retirement date, but this can limit any benefit from a stock market boom during this period. Instead, set yourself a loose target date, say within two or three years before or after a certain date, and sell when stock markets look elevated. Alternatively, sell when your portfolio reaches a target value.
Number three: Bide your time.
To an extent this tip contradicts my first tip, but you can combine approaches. Warren Buffett says that on rare occasions, when stock market conditions are just right, a buying opportunity is there for the taking. For example, this happened at the end of 1987 and again in 2001 and 2009. Buffett draws a parallel with a baseball batter, but the analogy also applies to a cricket batsman. The skilled player might leave most balls and patiently wait for the right moment. In practice, following this approach isn’t easy and you could wait years for the buying opportunity. On the other hand, individual stocks can sometimes fall to a bargain basement price. Do your homework, choose a selection of companies you like, follow closely and wait for those occasions when a stock you like appears cheap.
Even if market conditions develop when stocks do appear cheap, don’t just dive in with all your money. It is almost impossible to time buying perfectly, and stock markets can carry on falling for much longer than you might expect. As the economist John Maynard Keynes once said: “Markets can stay irrational longer than you can stay solvent.” So, even when conditions seem optimal for investing, remember my first tip and keep some of your powder dry.
