Financial Navigating in the Current Economy: Ten Things to Consider Before You Make
Investing Decisions
Given recent market events, you may be wondering whether you should make changes to your
investment portfolio. The SEC’s Office of Investor Education and Advocacy is concerned that
some investors, including bargain hunters and mattress stuffers, are making rapid investment
decisions without considering their long-term financial goals. While we can’t tell you how to
manage your investment portfolio during a volatile market, we are issuing this Investor Alert to
give you the tools to make an informed decision. Before you make any decision, consider these
areas of importance:
1. Draw a personal financial roadmap.
Before you make any investing decision, sit down and take an honest look at your entire
financial situation -- especially if you’ve never made a financial plan before.
The first step to successful investing is figuring out your goals and risk tolerance – either on your
own or with the help of a financial professional. There is no guarantee that you’ll make money
from your investments. But if you get the facts about saving and investing and follow through
with an intelligent plan, you should be able to gain financial security over the years and enjoy the
benefits of managing your money.
2. Evaluate your comfort zone in taking on risk.
All investments involve some degree of risk. If you intend to purchase securities - such as stocks,
bonds, or mutual funds - it's important that you understand before you invest that you could lose
some or all of your money. Unlike deposits at FDIC-insured banks and NCUA-insured credit
unions, the money you invest in securities typically is not federally insured. You could lose your
principal, which is the amount you've invested. That’s true even if you purchase your
investments through a bank.
The reward for taking on risk is the potential for a greater investment return. If you have a
financial goal with a long time horizon, you are likely to make more money by carefully
investing in asset categories with greater risk, like stocks or bonds, rather than restricting your
investments to assets with less risk, like cash equivalents. On the other hand, investing solely in
cash investments may be appropriate for short-term financial goals. The principal concern for
individuals investing in cash equivalents is inflation risk, which is the risk that inflation will
outpace and erode returns over time.
3. Consider an appropriate mix of investments.
By including asset categories with investment returns that move up and down under different
market conditions within a portfolio, an investor can help protect against significant
losses. Historically, the returns of the three major asset categories – stocks, bonds, and cash –
have not moved up and down at the same time. Market conditions that cause one asset category
to do well often cause another asset category to have average or poor returns. By investing in
more than one asset category, you'll reduce the risk that you'll lose money and your portfolio's
overall investment returns will have a smoother ride. If one asset category's investment return
falls, you'll be in a position to counteract your losses in that asset category with better investment
returns in another asset category.
In addition, asset allocation is important because it has major impact on whether you will meet
your financial goal. If you don't include enough risk in your portfolio, your investments may not
earn a large enough return to meet your goal. For example, if you are saving for a long-term
goal, such as retirement or college, most financial experts agree that you will likely need to
include at least some stock or stock mutual funds in your portfolio.
4. Be careful if investing heavily in shares of employer’s stock or any individual stock.
One of the most important ways to lessen the risks of investing is to diversify your investments.
It’s common sense: don't put all your eggs in one basket. By picking the right group of
investments within an asset category, you may be able to limit your losses and reduce the
fluctuations of investment returns without sacrificing too much potential gain.
You’ll be exposed to significant investment risk if you invest heavily in shares of your
employer’s stock or any individual stock. If that stock does poorly or the company goes
bankrupt, you’ll probably lose a lot of money (and perhaps your job).
5. Create and maintain an emergency fund.
Most smart investors put enough money in a savings product to cover an emergency, like sudden
unemployment. Some make sure they have up to six months of their income in savings so that
they know it will absolutely be there for them when they need it.
6. Pay off high interest credit card debt.
There is no investment strategy anywhere that pays off as well as, or with less risk than, merely
paying off all high interest debt you may have. If you owe money on high interest credit cards,
the wisest thing you can do under any market conditions is to pay off the balance in full as
quickly as possible.
7. Consider dollar cost averaging.
Through the investment strategy known as “dollar cost averaging,” you can protect yourself from
the risk of investing all of your money at the wrong time by following a consistent pattern of
adding new money to your investment over a long period of time. By making regular
investments with the same amount of money each time, you will buy more of an investment
when its price is low and less of the investment when its price is high. Individuals that typically
make a lump-sum contribution to an individual retirement account either at the end of the
calendar year or in early April may want to consider “dollar cost averaging” as an investment
strategy, especially in a volatile market.
8. Take advantage of “free money” from employer.
In many employer-sponsored retirement plans, the employer will match some or all of your
contributions. If your employer offers a retirement plan and you do not contribute enough to get
your employer’s maximum match, you are passing up “free money” for your retirement savings.
9. Consider rebalancing portfolio occasionally.
Rebalancing is bringing your portfolio back to your original asset allocation mix. By
rebalancing, you'll ensure that your portfolio does not overemphasize one or more asset
categories, and you'll return your portfolio to a comfortable level of risk.
You can rebalance your portfolio based either on the calendar or on your investments. Many
financial experts recommend that investors rebalance their portfolios on a regular time interval,
such as every six or twelve months. The advantage of this method is that the calendar is a
reminder of when you should consider rebalancing. Others recommend rebalancing only when
the relative weight of an asset class increases or decreases more than a certain percentage that
you've identified in advance. The advantage of this method is that your investments tell you
when to rebalance. In either case, rebalancing tends to work best when done on a relatively
infrequent basis.
10. Avoid circumstances that can lead to fraud.
Scam artists read the headlines, too. Often, they’ll use a highly publicized news item to lure
potential investors and make their “opportunity” sound more legitimate. The SEC recommends
that you ask questions and check out the answers with an unbiased source before you
invest. Always take your time and talk to trusted friends and family members before investing.
What is Investment Decision?
Investment decision refers to financial resource allocation. Investors opt for the most suitable
assets or investment opportunities based on risk profiles, investment objectives, and return
expectations.
Firms have limited financial resources; therefore, the top-level management undertakes capital
budgeting and fund allocation into long-term assets. Managers overseeing business operations
opt for short-term investments to ensure liquidity and working capital. Investment decisions are
also influenced by the frequency of returns, associated risks, maturity periods, tax benefits,
volatility, and inflation rates.
Investment Decision Explained
Investment decisions are made to reap maximum returns by allocating the right financial
resource to the right opportunity. These decisions are taken considering two important financial
management parameters—risks and returns.
Investors and managers dedicate a lot of time to investment planning—these decisions involve
massive funds and can be irreversible—impact on the investors and business is long-term.
Also, individuals and corporate investors have to decide between various options—assets,
securities, bonds, debentures, gold, real estate, etc. For businesses, investments could be in the
form of new ventures, projects, mergers, or acquisitions as well.
Investment decisions are further classified into short-term and long-term. For example, the final
decision may involve a capital expenditure on assets that pay off in the long run or an investment
in inventory that converts into sales within a short period. A company might attempt expansion
by taking up new projects; a business might increase the capacity of an existing facility. Capital
investment is required for replacing an obsolete asset as well. In business, decision-making is
everywhere.
Process
Investing in an asset, security, or project requires a lot of patience; ideally, the decision-making
process should be analytical. Following is a five-step process decision-making process that
guides investors:
1. Analyze Financial Position: For financial management, one has to understand the
company or individual’s current financial condition.
2. Define Investment Objective: Then, investors must set up an investment objective—
whether to invest short-term or long-term. They should also be aware of their risk
appetite (level of risk they desire to take).
3. Asset Allocation: Based on the objective, investors must allocate assets into stocks,
debentures, bonds, real estate, options, and commodities.
4. Select Investment Products: After narrowing down on a particular asset class, investors
must further select a particular asset or security. Alternatively, this could be a basket of
assets that fit the requirements.
5. Monitor and Due Diligence: Portfolio managers keep an eye on the performance of each
investment and monitor the returns. In case of poor performance, they must take prompt
action.
Factors Affecting Investment Decision
An investment is a planned decision, and some of the factors that are responsible for these
decisions are as follows:
Investment Objective: The purpose behind an investment determines the short-term or
long-term fund allocation. It is the starting point of the decision-making process.
Return on Investment: Managers prioritize positive returns—they try to employ limited
funds in a profitable asset or security.
Return Frequency: The number of periodic returns an investment offer is crucial.
Financial management is based on financial needs; investors choose between investments
that yield monthly, quarterly, semi-annual, or annual returns.
Risk Involved: An investment may possess high, medium, or low risk, and the risk
appetite of every investor and company is different. Therefore, every investment requires
a risk analysis.
Maturity Period or Investment Tenure: Investments pay off when funds are blocked
for a certain period. Thus, investor decisions are influenced by the maturity period and
payback period.
Tax Benefit: Tax liability associated with a particular asset or security is another crucial
deciding factor. Investors tend to avoid investment opportunities that are taxed heavily.
Safety: An asset or security offered by a company that adheres to regulatory frameworks
and has a transparent financial disclosure is considered safe. Government-backed assets
are considered the most secure.
Volatility: Market fluctuations significantly affect investment returns and, therefore,
cannot be overlooked.
Liquidity: Investors are often worried about their emergency funds—the provision to
withdraw money before maturity. Hence, investors look at the degree of liquidity offered
by a particular asset or security; they specifically consider withdrawal restrictions and
penalties.
Inflation Rate: In financial management, investors look for investment opportunities
where returns surpass the nation’s inflation rate.
Examples
Example #1
Let us assume that Quinn possesses $12000 in her savings account. She decides to invest, but her
priority is low risk and high liquidity. Her portfolio manager suggests XYZ mutual funds. This
mutual fund allocates 75% of her money into debentures & bonds and 25% into stocks. Also, she
can withdraw funds at any time.
Example #2
Caisse de Depot et Placement du Quebec (CDPQ) and DP World plan co-invested $5 billion into
three prominent UAE assets:
• Jebel Ali Port (JAP) established a trade corridor between the east and the west,
• Jebel Ali Free Zone (JAFZ) is the world’s largest free zone located in the middle east,
• National Industries Park (NIP) spread its manufacturing and processing companies across
21sq. Km of area.
As a consequence of the investment, CDPQ gained an expansive exposure—a logistics chain
comprising 8700 global companies—3.5 billion-plus consumers worldwide. In 2021, these assets
yielded an overall revenue of $1.9 billion.
