Reminders of some basic rules for Investors

Investing does not have to be complicated and it should not be exciting either. Putting your hard-earned money to work in the financial markets is all about helping you get what you want from life while making sure you can sleep easily at night. It is not about riding roller-coasters.

A basic rule of life is to avoid being a guinea pig in other people’s experiments. This is an inviolable rule of technology: consumers should always leave 1.0 of anything to the early adopters.

These are opportunities to remind investors of some basic rules. So, without further delays, let’s delve into what lessons investors should have gleaned from the past week’s debacle.

1. Keep away from new products –all new and untested financial products should be avoided for a full market/economic cycle. Wait for a recession and recovery, a bull and bear market cycle before buying any new Wall Street offering.

2. Investors never learn from history -a collective and costly form of amnesia led investors to forget about simple mean reversion. Eventually, volatility returned, as it always does. When it did, the trade went south fast. We shouldn’t be surprised that extended market gains lead to complacency. In past few years of placid trading created an environment where selling volatility short betting things would stay calm was a quick and profitable trade.

3. Don’t buy anything that you really don’t understand -Brokers and investment advisers who bought these on behalf of clients can now look forward to making up these losses from their own pockets or litigation. As Warren Buffett warned, “Risk comes from not knowing what you’re doing.” That seemed to be the case here.

4. Be aware of Repackaged for retail – At first, it is both unsuitable for them, as they [and their advisers] lack the skill and/or temperament to manage the risk and second, it serves no valid purpose in their portfolios. Stuff like this turns retail clients as Muppets; it’s sold only to earn a commission.

5. Greater returns always come with greater risk -Shorting volatility was a high-risk, high-return trade; it tripled during the past 18 or so months. But high expected returns (all things being equal) always come with greater risk. Whether its greater yield for fixed income or better performance for equities, this is a cardinal rule of investing. Expecting otherwise is seeking the mythical free lunch, which time and again leads to disaster.


Source: Gulf News

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