More investment options can mean more peril
Investing is complicated for everyone, but as you amass more wealth and have more investment choices, it only gets more complex. As it turns out, having more choices isn’t always better; it often means more twists, tricks, and traps. Here are six potential pitfalls to carefully avoid:
The exclusivity trap – Congratulations, your higher net worth “earns” you the right to invest in limited access hedge funds, private equity funds, IPOs, or other not-for-everyone investment vehicles. The lure of exclusivity may be a plus for marketing purposes, but it’s no guarantee of less risk or higher return. In fact, getting past the velvet rope line may come at the cost of big minimum investments or higher fees that significantly erode returns. Limited access investments may also have smaller, less liquid markets or lock-up periods that make them harder or impossible to sell.
The glossy brochure trap – When you have more money, you will likely also get more attention. You’ll get more phone calls, more emails, and more glossy brochures, many of them promoting specific investment products, from annuities to commodities to currency trading systems. These marketing materials can be highly persuasive, but you should be cautious about any sales pitch that begins with the product instead of your goals, risk tolerance, and income needs. BMW may send you a beautiful marketing piece for its latest high performance motorcycle, but that doesn’t make it the right ride for you.
The expertise trap – More investable income means more choice in general, including e choice to act on the expert advice of market commentators, subscribe to pundit newsletters, or take the can’t-miss advice of a wealthy friend. Experts can be convincing, but that doesn’t make them right. And even when they are right on a stock pick or market timing call, it may still not be the right investment for you or your goals.
The pre-fee, pre-tax trap – No matter how many times you hear the phrase “Past results are no guarantee of future performance,” it’s only human to look at historical returns when making investment decisions (along with Morningstar ratings, price/volume charts, and other data with no predictive value.) What gets less attention but deserves much more is the impact of sales charges, transaction fees, management expenses, and taxes. Because what matters most is not what you earn, but what you keep, fees and tax management are important considerations.
The sacred cow trap – Personal wealth is often concentrated in a single stock, thanks to a long career with one company, the sale or merger of a business, or inheritance. When you treat any big holdings as unsellable based on how you acquired them, the holdings can unnecessarily boost the risk level of your portfolio as a whole. Because any single stock can crater based on a scandal, lawsuit, product failure, accident, or rumor, deliberate diversification is a smart, easy safeguard, even when it seems like treason to sell “special” stocks.
The by-the-slice trap – Potentially the biggest trap of all is the purchase of any investment without an understanding of how it fits into your total portfolio. Overall investing performance – and the ability to meet important financial goals like a comfortable retirement – hinge less on the individual securities in a portfolio than on the overall asset allocation pie. How assets are distributed among stocks and bonds, and among different types of stocks, is the real key to risk and return. Any decisions that don’t take overall asset allocation into account pose a real danger, regardless of your level of wealth.
The peril of emotion
These are just a few of the traps that await you in the investment arena, especially as your net worth rises. What’s the common thread among them? Well, most have a distinct emotional element, a strong influence on decision-making that’s driven by sentiment rather than science. Whether it’s envy, loyalty, regret or impatience, emotion just doesn’t add much value in investing, and often subtracts plenty.
As hard as it may be to vanquish emotions from the investment equation, it’s one of the most important steps you can take as you negotiate through and around the traps of modern investing.
Bright Sky Group, LLC is not a registered investment adviser. The views expressed by Bright Sky Group represent the opinions of members of Bright Sky Group, but should not be construed as financial or investment advice. Further, the views are subject to change and are not intended as a forecast or guarantee of future results. The material provided by Bright Sky Group is for informational purposes only. Statements of future expectations, estimates or projections, and other forward looking statements are based on available information deemed reliable, but the accuracy of such information cannot be guaranteed. Statements are based on assumptions that may involve known and unknown risks and uncertainties. Past performance is not indicative of future results.
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