AS A South African sports fanatic, I used to watch sports from other countries to see if I would enjoy them as much as my local favourites.
I could not understand baseball, NFL, Aussie rules and ice hockey – they were mystifying, and I did not enjoy them at all.
I realised that if I wanted to enjoy any of these sports, I would first need to learn their rules. Having come to this realisation, I stopped watching them as I didn’t have an infinite amount of time to do so.
The world of investments can be very similar, except the consequences of not understanding the rules are much worse.
Unfortunately, you cannot simply decide not to participate in the world of investments if you would like to be financially free. You do need to understand some of the rules to avoid financial disaster.
Ignorance can cost you
Let’s look at two people who retire on the same day, at the same age (65 years old) with the same amount of money (R5m).
One person puts all his money in cash at the bank, while the other person invests R2.5m in a stock market index and R2.5m in a bond market index. They both choose to spend R250 000 per year and they both increase this amount with inflation every January.
After 22 years, the person who put all his money in cash ran out of money at the age of 87. The person who invested her money in shares and bonds also eventually ran out of money, BUT this happened in 35 years, when she was 100 years old.
If you are wondering how I calculated the growth of the investments, I simply used the long-term returns for shares, bonds and cash as published in the 'Credit Suisse Global Investment Returns Yearbook 2018'.
In other words, these are investments that all of us can buy through the index investment products on offer in South Africa.
It is important to note that both people were entirely passive in their approach; they both made one investment decision and then left their investments to continue unchanged.
The biggest difference between the two people was their understanding of investments. If you want your capital to grow faster than inflation, you need to invest in growth assets like shares, bonds and property.
They are naturally more volatile and will lose value in some years. Cash will always generate some interest and therefore you might feel safe with your money in the bank.
Unfortunately, cash cannot grow faster than inflation over extended periods of time, so you will eventually lose out with cash.
Some rules to remember
- When you decide to invest your money, the most important part of your decision is how much of your money is invested in shares, property, bonds and cash. This is called your asset allocation and if you get this decision right, you are almost certain to be successful with your investments in the long term.
- Investing is always a marathon and not a sprint. You cannot plan to double your money in three years with quality investments. You can however expect that they will double every 5 to 8 years if you are patient.
- You need growth assets like shares, bonds and listed property in your investments if you want to beat inflation. Unfortunately, growth assets are volatile and unpredictable; this does not mean you should avoid them. Uncertainty is only a negative for investors if they panic or become overly emotional about their capital.
- If you have a long-term focus, you can take advantage of difficult times to buy more investments at lower prices because other people will be panicking. The stock market regularly falls by 10% during the year and this often causes panic. However, investors who remain patient often see great growth if they remain invested.
The key with investments is to understand certain golden rules and to remember them when times get tough. This does not mean you need to become an investment expert. You can still appoint people to look after your money, but you need to know what to expect – in good times and in bad.
If you remain focused on your own strategy and ignore the noise from those who don’t know anything, you can become financially free.
- Warren Ingram is a wealth manager at Galilio Capital. Contact him on @warreningram. To find out more go here: www.galileocapital.co.za.