Do you remember the tale of “The goose that laid the golden egg.” It goes like this; Once upon a time there was a farmer who owned a goose. One morning he found that the goose had laid a golden egg. Thereafter, each day the goose would lay a golden egg. The farmer soon made a fortune by selling the golden eggs. Soon, he was no longer satisfied as he felt he could get even richer, faster; he wanted all the golden eggs all at the same time. He became very impatient and one day he slashed open the gooses belly to try to retrieve all the golden eggs at once. He was left with a dead goose and no eggs.
Moral: “Don’t count your chickens before they are hatched.” Because he was greedy and impatient and wanted all the eggs at once, the farmer ended up with nothing. Many investors are like this farmer. They become greedy and lose the balance of discipline. “Killing the golden goose” has become a metaphor for any short-sighted action that may bring an immediate reward, but could ultimately prove disastrous.
Many amateur investors don’t understand market and economic cycles, nor do they keep abreast of stock market ratios and data. Generally when the stock market is having a good run they become greedy and are lured by great expectations; they are guided by greed, rumour, and peer pressure, and jump on the bandwagon with all they have, and all too often, when it is too late.
Naturally when everyone is diving in at a high point in the market, the seasoned investors generally retreat. When the stock price starts to decline, and the amateur investors begin to visualise huge losses, they panic and start selling their investments at very low prices, below market value, which gives the seasoned investors a chance to go back into the market to pick bargains. The cycle starts again. As stock market values continue to appreciate, don’t wait until the all time high before you plan to get back in.
“Don’t put all your eggs in one basket”
There are several stories attributed to the origins of the term “don’t put all your eggs in one basket”. The phrase is often attributed to Miguel Cervantes, a contemporary of Shakespeare. In its contemporary context, it refers to the concept of diversification as an investment strategy and the fact if you put all of your money in one investment, your return will depend solely on the performance of that investment. Thus if the investment performs badly, your investment is at risk.
Diversification can significantly reduce investment risk. By diversifying across the various asset classes such as cash and fixed income securities, stocks, and real estate, you can reduce the risk of market volatility as they all perform differently. Stocks, generally offer the highest returns among these three classes, but they also carry the highest risk of loss. Bonds may not be as lucrative, but they offer more stability than stocks. Money-market returns are usually low, and your savings may not even keep pace with inflation, but your investment is relatively secure. Real estate also forms another asset class.
In addition to diversifying among the different asset classes, consider diversification within them. An asset-allocation strategy looks at your particular goals and circumstances and determines the most appropriate mix for you. Your risk appetite, your personal wealth and income needs, your age and time horizon, your financial goals will help you determine how much you should have in each asset category.
General rules for asset allocation suggest that any money you need next year should be in cash, money you need in two to three years in fixed-income investments, and any money you don’t need in four to five years and beyond should be invested in the stock market. This ensures that the cash you need today is ready to be spent, the money you need in a few years will be safe from stock market volatility, and money you need several years from now can be invested in the stock market for long term growth.
Protect your “nest egg”
The use of the term “nest-egg’ to refer to savings dates back to the 16th century. The practise of putting a real or china egg into a hen’s nest was to encourage her to lay more eggs. The connection between this and the ‘savings’ meaning may be that the egg that was placed in the nest could be later retrieved, after the hen had laid, or that by putting away an egg, that is, saving, you can enjoy growth as more eggs are laid.
The nest egg is money set aside in investment, money market, or savings accounts that is designated for some specific purpose. Most common is the reference to retirement money and for funding educational expenses, weddings or the down payment on a home. Ideally a nest egg should be allowed to grow quietly in the background and kept safe and untouched except for its intended purpose. It also helps to set aside an amount on a regular basis to grow your nest egg each month.
If you are not an experienced investor, seek financial advice. Professionals have the expertise and a plethora of information with which they can make well-informed decisions and guide you appropriately as where to safely place your money to maximize profit and minimize losses. As you become more familiar with the market, you can become more directly involved and take informed risk.
Investing is a journey towards achieving your goals. Have your own long-term strategy and stick with it. If you focus on your goals, you won’t be easily distracted by market hype, volatility and what everyone else is doing. Your own unique circumstances should ultimately determine how much, how and when you invest. Watch your own chickens and appreciate your own eggs!
Nimi Akinkugbe is a banker with passion for encouraging financial independence. She has through articles, speaking engagements, television and radio appearances, offered frank and practical insights to creating a greater awareness and understanding of personal finance and wealth management issues.