Investing can seem overwhelming, especially with so many rules and strategies to consider. However, mastering a few key principles can make a significant difference in your financial journey. In this article, we’ll explore 10 essential investing rules that every investor should understand.
From building a solid savings foundation to managing risks and overcoming emotional biases, these guidelines will help you make informed decisions and set yourself up for long-term success. Whether you’re new to investing or looking to refine your approach, these rules will provide a solid roadmap for your financial future.
1. Before Investing, Comes Saving.
While saving is often viewed as a necessity for those with limited means, it is essential for everyone. Focus on saving and growing your income before investing.
Remember savings is the difference between your income and your expenses. Hence, to save more you should look at ways you either increase your income or cut your expenses. If you can do both, then you become unstoppable.
A high income, accompanied by a high savings rate can help you build wealth over the long term.
2. Create an Emergency Fund.
Before you start investing, establish an emergency fund to serve as your financial safety net during challenging times. This fund will help you avoid the need to sell your long-term assets when unexpected expenses arise.
Remember, the greatest returns from investing typically come from holding assets over a long period. An emergency fund allows you to stay invested, maximizing your growth potential.
3. Build a Liquid Portfolio.
An investment’s value is only meaningful if it’s liquid when you need to cash out. Just as travellers cannot survive in the wilderness without water, investors risk financial hardship without adequate liquidity.
Ensure that your portfolio includes liquid assets, allowing you to access funds quickly when necessary. This approach will help you respond to opportunities or emergencies without compromising your long-term investments. For a more comprehensive guide on building portfolios, check out A Simple 5-Year Plan for a Profitable Investment Portfolio.
4. Do Not Invest in Things You Do Not Understand.
Avoid being lured into investments solely by the prospect of high returns. Instead, make informed decisions based on thorough research.
Invest only when you understand the underlying principles, the associated risks, and your likelihood of success. Knowledge is key to making sound investment choices and minimising potential losses.
5. Do Not Take More Risk Than You Can Bear.
Never risk money that you cannot afford to lose. Assess your financial situation and invest accordingly.
To mitigate risk, diversify your investments across different asset classes. Remember, the easiest way to lose money is not through reckless spending, but rather through poor investment decisions.
6. Diversify.
Diversification is not the primary strategy for building wealth; rather, it is a means of preserving it. When focusing on wealth accumulation, concentrate your portfolio on your strongest investment opportunities.
Start with a few high-potential assets, then expand your investments as your wealth grows. This approach allows you to maximize returns while gradually spreading your risk.
7. Understand the Risk/Yield Relationship.
Recognize that higher potential returns typically come with higher risks. It’s essential to assess your risk tolerance and align it with your investment goals.
Understanding this relationship will help you make informed decisions and create a balanced portfolio that suits your financial situation. Strive for a mix of investments that align with both your risk appetite and desired returns.
8. An Investor’s Biggest Enemy is Himself.
The greatest obstacle for an investor often lies within—your mindset. To succeed, you must recognize and overcome your logical fallacies and biases.
Investing is not just about knowledge; it’s largely about behaviour. Mastering your emotions and decision-making processes can significantly impact your investment outcomes. Remember, successful investing is 20% knowledge and 80% behaviour.
9. Investing Costs Are Not Your Friend.
Many investors focus excessively on inflation rates while overlooking the impact of investment costs.
When it comes to returns, time works in your favour. However, regarding costs, time can be your enemy. High fees and expenses can erode your profits over time, so it’s crucial to keep investment costs low to maximize your returns.
10. What Returns Can You Sustain?
Understanding the math behind compounding reveals that the critical question isn’t, “How can I earn the highest returns?” Instead, it’s, “What are the most sustainable returns I can maintain over the long term?”
Investing is a marathon, not a sprint. Focus on consistency and sustainability in your returns to build lasting wealth over time. You can use my Finance Calculators to estimate and understand possible returns on any investment you make.
Final Thoughts
Some lessons in investing cannot be taught; they must be experienced firsthand. The most effective way to learn is through action.
Step into the investing arena, commit your resources and embrace the possibility of failure. Each setback provides valuable insights that contribute to your growth as an investor.
Happy Investing!
TL;DR
- Before Investing, Comes Saving.
- Create an Emergency Fund.
- Build a Liquid Portfolio.
- Do Not Invest in Things You Do Not Understand.
- Do Not Take More Risk Than You Can Bear.
- Diversify.
- Understand the Risk/Yield Relationship.
- An Investor’s Biggest Enemy is Himself.
- Investing Costs Are Not Your Friend.
- What Returns Can You Sustain?