All investing is associated with some level of risk.
But if you’re taking on too much risk, you may be speculating, when you think you’re investing.
In today’s episode, I’m going to talk about the difference between investing and speculating as well as a number of myths about risk that most investors don’t understand.
Later, I’ll have a chat with Bessie Hassan, of Finder.com.au about the risk of getting scammed.
You may be surprised to learn that Australians lose more than a million dollars a week in scams.
We’ll talk about who gets scammed, what to watch out for, and how to protect yourself.
What most investors don’t understand about risk
What’s the difference between investing and speculating?
Investing is purchasing an asset to earn a return. You make the decision based on evidence, based on fundamentals, based on long-term horizons so that timing isn’t an important part of it, and you aim to profit from it.
Speculation is riskier. It’s based on the hope of a profit. It’s based on hearsay or the next hotspot or chasing the next big thing. It’s usually based on short-term time frames, so timing the market is important. And you’re hoping to make money out of a rising market, and therefore it’s less reliable than investing.
So why do some investors think they’re investing when they’re really speculating?
They’re looking for the next growth area or the next hotspot.
They’re looking for something that will work now.
On the other hand, strategic investors don’t look for investments that will work “now”, they look for investments or locations that have always worked - they invest in properties and locations that have worked in the long term. That’s the big difference between investing and speculating.
The myth of risk
What most of us have been taught about risk is wrong, and it’s probably holding you back from achieving real wealth.
If you are like most investors somewhere along the line you’ve probably heard that there is associated with different investment vehicles, most believe that any investment can be placed somewhere along a continuum of risk with low risk investments at one end and highly speculative ventures at the other.
They believe that generally, the higher the risk the greater the reward.
However, this theory misses an important component that helps determine whether or not a specific investment is risky.
That component is you.
Each investor has their own personal risk spectrum.
How can you tell if an investment is risky?
This question can’t be answered without knowing more about you.
Have you ever invested in property?
Have you completed a development?
If you have zero knowledge about residential developments, or you’ve never owned an investment property, no matter how good the deal seems a development is a risky proposition.
Some ways to determine risk:
- Know your area of expertise -- If you’re investing in something that’s your specialty, you start with a built-in advantage.
- Control – the more control you have, the lower your risk
- Transparency – the more you know, the lower the risk
- Liquidity -- Liquidity means the ease with which you can recover your money by selling the investment and converting it (or part of it) to cash. The greater the degree of liquidity, the lower your risk.
- Returns -- Investors gain returns from their investment property via cash flow, capital growth, forced appreciation and tax benefits. The more secure the returns, the less risky the investment will be
- Is your equity safe? -- Is your financial outlay secure if the investment fails?
- Are you personally liable? -- When you make an investment, do you have to provide a personal guarantee? This gives others (usually the banks) the right to pursue you if things go wrong. If your liability extends beyond the asset itself, your personal assets could be at risk.
- Market risk -- Some risks are inherent to certain markets. Consider what impact general economic changes to that marketplace could have on your investment.
- Risk spectrum -- This is the risk specific to the particular investment. Is it the right property, in the right suburb, at the right price and at the right time in the cycle?
When considering an investment, don’t look at the investment alone – look at your own risk spectrum too.
You can change your risk spectrum by developing expertise.
Australians are losing about $1 million a week to investment scams
- According to Scamwatch by the ACCC men (63.5% of scam reports) are twice as likely as women (33.8% of scam reports) to be targeted by investment scams.
- If the current trend continues, combined losses reported to Scamwatch and ACORN in 2018 could be in excess of $100 million.”
- The vast majority of investment scams are still centred on traditional investment markets like stocks, real estate or commodities.
- The clearest warning sign you’re dealing an investment scammer is how they contact you and the promises they make.
Links and Resources:
Some of our favourite quotes from the show:
“The fundamentals of sound residential real estate investing don’t change because short-term factors change.” – Michael Yardney
“Regardless of how you may define success, your words, those you say to yourself and those you say out loud, are going to help manifest your visions, your goals, whatever you’re saying to yourself, into reality.” – Michael Yardney
“Successful people are successful because when the odds are against them, they try even harder, rather than complaining and giving up.” – Michael Yardney
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