18 April 13
The more I get informed and involved with investing, the more it seems to me like fruit salad. Or perhaps I should say, shopping to make fruit salad. It’s the mix that counts.
Just like being at the supermarket looking for some bananas, grapes, pears or strawberries, investors are looking to mix different kinds of investments as well. The main categories to invest in – what the experts call ‘asset classes’ – are shares, property, bonds and cash.
How much of each kind of fruit you include will shape the sort of dish you create. In the same way, the mix of investments you choose will directly shape your results. Getting this right is all important.
Just a reminder to all those in KiwiSaver out there — you’re already investing! The money you put in is being invested on your behalf by professional fund managers into a certain mix, so you should check what that is and if it’s right for you. Sorted’s investment planner can help.
If you want a berry-heavy salad, you’ll choose accordingly – I always find myself adding way more blueberries – and it will end up tasting a certain way. If you are looking for an investment mix that is mostly growth assets like property and shares, for instance, it will have its own results: perhaps higher returns, but definitely more risk as well.
These days Sorted has rolled out an insightful new tool to help you find the right mix of investments for you (your ‘asset allocation’). Based on your answers to nine questions, the investor kickstarter lets you know what type of investor you are, and then it displays what a suitable mix of investments would look like – your investment recipe for success, as it were.
The investor kickstarter then moves on to show you how, for that investment mix, your results will shape up: the returns and range of returns you can expect, as well as how often you might have a negative return or experience a loss over the next three years. It also suggests a minimum of time you should invest for that particular mix of investments.
Getting a suitable mix of investments can also help if one kind of investment goes, ahem, pear shaped for a while. Bonds and shares, for instance, typically do well at opposite times. That’s why investing really is about making fruit salad, not just buying one big orange that may turn out to be a lemon.
Let’s go back to the supermarket for a moment. You’re there picking your mix of bananas, grapes, pears and strawberries, taking a good look at each one before it goes in to your cart. That ‘good look’ is what experts call ‘due diligence’ – researching each investment as carefully as possible before buying.
If you could, you might even want to cut open each piece of fruit beforehand to make sure nothing’s rotten inside, but of course the shop owner would have something to say! We’d all like to get into the inner workings of a company before buying shares in it, too. That’s where reading the company’s investment statement and finding as much information as possible comes in.
What makes due diligence difficult is that while we may already know what good fruit looks like, we may have no idea when it comes to companies. What would you do if you had never seen the inside of an apple? How do you know what to look for? If you are a child, you ask mum which one to pick; if you are an investor, you get advice, preferably from an authorised financial adviser.
And when due diligence is difficult, like trying to look at every grape in the bunch you just picked, it’s wise to make sure you have a lot of grapes. So you grab a bunch. If one of those ones in the middle is actually a bit overripe or smashed, at least you have many others to use for your salad.
Instead of buying all your shares in one company, for example, you can spread your risk by investing in many different companies in a variety of industries and in different countries. Some will do badly; others will do well. This is what the experts call ‘diversification’. You have a bunch of grapes to keep things tasty, instead of just one single grape.
So just to recap: asset allocation is about looking for different kinds of fruit to make the salad you want; diversification means buying more than one of each kind – just in case.
With all the interest in shares these days due to the government selling down its stakes in the state-owned power companies, many buyers may end up with ‘orphaned’ shares that are not part of a mix of investments and have no chance of being diversified.
Which is sort of like if you were choosing a rock melon for your fruit salad – you are only going to buy one. So you need extra due diligence so that you don’t get it home to find it’s of no use.
Hold it up to the light, give it a squeeze, rap your knuckles on the rind – do whatever it takes to make sure it’s a good one.