Have you ever turned on a cable financial news channel and noticed a network pundit touting the next great investment? CNBC may have an analyst telling you that a small tech company is the next Microsoft and you must buy it today. Fox Business may have a gold expert telling you to buy gold despite the fact that gold is selling at a 30 year high. Or you may be at a social function and someone is talking about an investment that is guaranteed to double over the next year. What is the average investor to do with all of these “hot tips”? My advice to you is To Tune Out The Noise.
It can be tempting to try to make a quick killing and buy the hot idea that everyone is talking about. But more often then not you will end up getting burned and regretting that you ever wasted your precious dollars. Take the dot com-bubble of 2000 for example. In the late 90’s companies like MicroStrategy, Worldcom and America Online were soaring to new highs daily. The internet was the place to be and everyone was investing in the tech sector. People were quitting their jobs and daytrading stocks full-time in hopes of getting rich. In 2000 the tech bubble burst and many daytraders found themselves declaring bankruptcy.
Another example is the real estate bubble of 2008. During the early 2000’s home prices increased dramatically to record levels fueling speculative home buying. Speculators bought homes with little to no money down in hopes of flipping them for a quick profit. Everywhere you looked people were buying homes hoping to flip them and get rich overnight. The housing market was saturated with people bidding home prices up to unsustainable levels. The bottom fell out of the housing bubble in 2007 with the subprime crisis and millions of people found themselves facing foreclosure or bankruptcy.
The lesson to be learned from both cases is to Never Follow The Crowd. While there will always be speculators trying to make a fast buck with their get rich quick schemes; remember that real wealth is built over time. Think of wealth building as a marathon and not a sprint. Building wealth is a long term endeavour that requires having a solid strategy and being committed to it. One of the best ways to obtain wealth over a long term period is through investing. Follow these 3 simple steps and you are well on your way to Investing For the Long Run.
1. Identify your investment strategy.
Your investment strategy shapes the selection of your investment portfolio. Your investment strategy depends on a number of factors such as your age, risk tolerance and investment horizon. If your strategy is to secure a guaranteed return so that you can sleep at night then your portfolio may consist of conservative low risk assets such as Treasury bonds, savings bonds and certificates of deposits. If you are a high risk investor that seeks a greater return on your money then your portfolio may consist of individual stocks, small cap mutual funds and high yield bonds.
2. Invest in undervalued assets.
The key to investing is to find an undervalued asset and to hold it until the intrinsic value is realized. The intrinsic value is the true value of the asset. When investing you want to find an asset whose intrinsic value is greater than the current market value. Once the intrinsic value is equal to or greater than the market value, you sell. The asset can be anything of monetary value including stocks, bonds, mutual funds, real estate, etc. For example let’s say that you wanted to buy 1 share of McDonald’s with a market value of $50. If you believe that the true value of McDonald’s is $70 then you would hold the stock until McDonald’s reaches its intrinsic value.
3. Ignore short term market fluctuations.
Financial networks are only concerned with the short term outlook. The day to day movements of the market should only concern speculators. Only invest if your minimum investment time frame is a minimum of 5 years. If your investment reaches its intrinsic value in less than that time period, that’s great! If not, don’t worry. Be patient! You are investing for the long run.
Has anyone ever given you a ” hot tip”? What do you think is the best asset class to invest in right now? Is it the stock market, housing market or bond market?