Business Systems Architect

“How To Maximize Your Net Worth Using
The Proper Investment Strategy?”

All investment is inherently risky.

A good investment produces a relatively higher return through a relatively lower-risk venture. A bad investment produces a relatively lower return even though the risk of losing all, or a part of the capital is relatively high.

Yet, no matter how small the expected return may be, there is always a risk of loss associated with any investment.

A high risk investment opportunity isn’t necessarily bad. If it carries a return that justifies the high risk, then there is no harm in investing in a high risk, high-return opportunity.

The only two questions an Intelligent Investor needs to ask himself are…

  1. Can I afford to lose a part of, or all of the capital I am about to invest here?
  2. Is the reward worth the risk?

If the answer to both these questions is YES, then it’s prudent to invest. Even in a high risk asset.

Similarly, not all low-risk investment opportunities are prudent. If the return is very small, then the low risk doesn’t necessarily make the investment opportunity an advisable one.

The job of an Intelligent Investor is to invest in assets that carry a relatively low risk, while producing a relatively high yield or return.

The Basic Rule of Investment

Warren Buffet learned this rule from Benjamin Graham. Graham was Buffet’s teacher, mentor and first employer.

Here’s what Graham had to say about investing…

There are only two rules to investment. Rule number one is do not lose your capital. Rule number two is do not forget the rule number one.

The Intelligent Investor’s first priority is to protect his or her investment capital.

If you lose half your capital, you’ll have to produce a 100% return just to get back to square one.

The single greatest mistake that you can make as an investor is getting lured by dazzling investment opportunities that promise fast riches. Because these are the opportunities that often carry the greatest risk.

Have You Ever Lost Your Investment Capital?

It hurts.

I know because I have lost my investment capital. More than once, actually. And I know how hollow it feels after you lose your capital by making an imprudent investment.

The first time I lost my capital, it was a $2200 loss. Now, that may not sound like a lot of money to you. But I was 19 years old at that time, and my total investment capital was only $4000 or so. So basically, I’d lost more than 55% of my entire capital.

Which, by the way, had taken me three years to save. Three years of cost cutting. Three years of working extra hard to build up a capital. And over half of it, gone. Poof! Within seconds. There was nothing I could do.

I felt suicidal for a while. It felt as if this whole “investment thing” was a huge money-sucking scam. I could swear, at that moment, that “the only way to make money in this world is to work hard and save. Everything else is a lie.

Of course, that’s not true. But it felt true at the time.

I had worked so hard to save $4000 to invest in the stock market, and with just one swing, it was all gone. I could see someone else laughing all the way to the bank with my money. My sweat and blood, and years of hard work.

So What Had Gone Wrong?

How did I lose over half of my capital within a few minutes? How could it go so wrong? How did a simple stock market investment become so risky?

Answer – It was leverage. Along with a lack of experience and knowledge.

I’d received a tip from a stockbroker that the stock of a certain company would rise in value by three or four percentage points within a day. Since I had absolutely no knowledge or understanding about investments, I thought it would be wise to invest my money in that particular stock.

Except, instead of rising by three percent, the stock fell by over seven percent within a day.

Now, ordinarily, that wouldn’t be much of a problem. I’d have lost $350 to $400 and come out largely unscathed. Or better yet, I could have held that stock until it bounced back. But this time, I couldn’t.

Why?

Because I was leveraged. Heavily leveraged.

You see, the stock brokerage I had invested with gave me money to speculate with. So for instance, if you are working with a $4000 capital, they’ll lend you up to $32,000 to buy shares and speculate. Except, you have to necessarily return their debt by the end of the business day.

I bought up stock worth $29,500. By the end of the day, that stock was worth less than $27,300. And it had to be sold.  Consequently, I lost over $2200 in one day, and I was left with little over $1700 in my account.

That day taught me two harsh lessons…

Two Very Expensive Lessons

Firstly, there is no such thing as short term investment.

In the stock market, through intra-day trading, or technical trading, when someone makes a dollar, someone else loses a dollar. It truly is a zero sum game.

In the short term, no value can be created. So if you buy a share of the Coca-Cola company today, nothing actually changes in the firm. Coca Cola doesn’t manufacture or sell any extra cans of coke.

The only way you can buy low and sell high within a day (or even a few days) is if someone else in the market buys high and sells low. For you to make money, someone else must necessarily lose money.

Wealth is not created by investors trading stocks and dollars. Wealth is created by the company. By gaining a larger market-share, or by increasing the profits generated. When a company uses investors’ money to grow bigger or more profitable, wealth is created.

This process of gaining market-share and profitability takes time, naturally.

Therefore…

Investment is essentially a long term strategy.

Short term investment is not investment, it’s speculation. It is no different from going into a casino and putting your capital on a game of Russian Roulette.

So that’s the first lesson.

Secondly, investing your entire capital in one kind of investment is asking for trouble.

I had invested my entire capital in just one stock. In fact, I had borrowed money from the stock brokerage to invest in that stock. And that was a foolish decision.

What I should have done is diversify my portfolio. I should have broken my capital into three different funds. The first fund would be invested in the stock market. The second in the commodities market. Third in a Gold fund.

Then, from the stock market fund, I should have chosen three to six stable, well-performing stocks, and invested in them proportionally. That way I wouldn’t have exposed myself to as much risk as I did.

So the second lesson of investment is…

Do Not Put All Your Eggs In One Basket

And definitely do not borrow money to invest. Never invest more than you can afford to lose. I couldn’t afford to lose $29,000 at that stage, yet I had put $29,000 on the line. That was obviously a big mistake.

These two lessons form the backbone of my investment philosophy. All my investment is guided by these two lessons.

Now, for any investor, there is a lot of seemingly contradictory advice out there…

The Source Of Frustration For Investors
Mutually Contradictory Advice

When I began this article, I spoke about how high risk investments aren’t necessarily bad, as long as the return produced is high enough.

Yet, just a few moments later, I said that as an Intelligent Investor, the first job you have is to protect your investment capital.

Now, these two statements seem to be mutually contradictory.