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Buying a financial product is the easy part of investing. But do you know what you are buying and why? Those are the hard questions you need to answer before jumping into buying a financial product.

Let me make it simpler for you. The first step is to identify what exactly you need from an investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More. A good investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More helps you grow your money and keeps it flexible too. There are other facets too, which are important.

Here is a list of six such features which are important for you to consider if you want a good investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More on your hands.

What makes a good investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More?

1. It should be able to multiply value for you or in other words create wealth.

The wealth creation can be linear or non-linear, fast or slow, but wherever you put your money, the asset needs to have the ability grow the value of your money.

2. An investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More needs to be flexible.

Flexibility means you should be able to invest and redeem whenever you want and for the amount you want. If limits on minimum investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More amount are too high, then you know that flexibility is limited. Or if you have to pay a penalty either in forgoing return or an exit penalty then again, it’s not flexible. It may still be an investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More you want to make, but know that you are forgoing flexibility for some other aspect which appeals to you.

3. An investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More should be liquid.

A liquid investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More is one where you can enter and exit without impacting price and whenever you want. For example, listed equity shares are mostly liquid as you can buy and sell at the market price for most quantities. Real estate, on the other hand, is an asset which will face some liquidity pressures as the price is negotiable, the sale isn’t immediate and your decision to sell can will impact the price of the unit you are selling in certain situations.

4. An investment ideally has a supplementary source of income other than a change in capital value.

Some income generated from the investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More other than the change in its price, adds to the lure. For example, bonds which are listed gains from change in price but have a coupon pay-out too. Property investments can deliver rental income and equities delivers dividends. This also shows that the underlying company or asset is productive and there is some constructive value being generated from the investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More or the asset. This does not hold true for assets like gold and schemes like multi-level marketing, which some people consider as an investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More.

5. Transparency is a must.

An investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More has to be transparent about the costs attached, the risks involved, who is managing it, where is your money being utilised and so on and so forth. In this regard, financial securities which are a part of the capital market listed space are perhaps the most transparent thanks to stringent regulation. Listed companies have to declare a whole lot of information which is accessible to all investors. Other capital market products like mutual funds are also regulated by the market’s regulator, Securities and Exchange Board of India, and come with a high level of transparency. Assets like property are marred with opaqueness on costs, risks and all kinds of other aspects. Insurance is also not transparent, not an investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More at all – but that is a separate discussion you can read here.

6. Make sure the investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More is in your name.

Many people are simply lazy at decision making or information gathering when it comes to investing their money, although they will work very hard to earn it. Along comes a relative who says, let me take that burden off your hands and invest your surplus, and out goes the saving along with the expectations of returns. Don’t make this simple mistake and ensure that the investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More you make is always in your name only. It’s the biggest mistake and the highest risk, no matter who the person at the other end is.

Once you have ticked of these features of a good investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More, you should take a peek into the world of risk and then get started.

What does risk mean?

Risk is simply the chance of losing money or capital or your initial investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More made by you. Every investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More comes with some kind of risk, while risks specific to financial products will get discussed in subsequent blogs that focus on that product, for now you must understand the difference in risk between market linked and non-market linked products.

Market linked products

Market linked products are those which see a change in price on a daily basis. To name a few, equity shares, mutual fund schemes, listed bonds and even gold. You can potentially buy and sell these products at a published market price any day of the week, month or year.

For market linked products there is volatility or up and down price movement every day and when things turn extreme, price change is extreme too.

This happened for equity and bond prices in March 2020, for gold prices in late 2012.

Real estate too is driven by market prices, however, there are a few differences. Firstly, the price is not published on a daily basis and secondly, the final price is negotiable, hence, the volatility is not perceived as so.

Degree of daily volatility can be very low in some products and those are referred to as low risk. Others can have high volatility, which can be managed by giving your investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More time. Remaining invested for long periods can help smoothen out the daily volatility attached to market linked products.

Over time the value of an investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More relies more on the internal fundamentals and volatility smoothens out.

Hence, such products with high volatility are most suited for the long term.

Non market linked products

In non market linked products, the primary source of income is a fixed interest coupon hence volatility in price has little bearing.

The risk however, is that you contract for a low coupon for a long period and lose out if inflationInflation is a common term thrown around in economics lessons and by politicians around election time. What it means in simple language is that prices of things you buy, stuff, keeps increasing every year. It happens because the economy in... More rises or interest rates themselves begin to rise.

InflationInflation is a common term thrown around in economics lessons and by politicians around election time. What it means in simple language is that prices of things you buy, stuff, keeps increasing every year. It happens because the economy in... More is the rise in the price of goods and services in an economy, which in turns reduces the value of your money. If your fixed interest coupon is too low and inflationInflation is a common term thrown around in economics lessons and by politicians around election time. What it means in simple language is that prices of things you buy, stuff, keeps increasing every year. It happens because the economy in... More rises, then you make negative real return. Which is the case today with one-year fixed deposit interest at roughly 5% a year while inflationInflation is a common term thrown around in economics lessons and by politicians around election time. What it means in simple language is that prices of things you buy, stuff, keeps increasing every year. It happens because the economy in... More is at 6% – which, leads to a negative 1% real return for the year.  

Secondly, if you are invested in a fixed deposit at say 5.5% annual interest for 10 years and 3 years down the line, interest rates rise and the ten year fixed deposit now offers 7%, it’s an opportunity loss for you, since you are already invested at a lower rate with 7 more years to go.

Hence, such products are most suitable for short term parking of money rather than long term allocation.

Risk of quality

Market volatility is a risk that can be managed. What can’t be managed or wished away and impacts all financial products similar is the risk of quality. You buy a poor-quality financial product; you are sure to lose money. This is dangerous and applies to market linked or non-market linked products. Quality checks are important.

When you focus more on quality rather than volatility, the latter sorts it self out in time.  

But if you get stuck in bad quality you will regret it and there is no substitute; you stand the chance of losing all your money. You can have poor quality bank deposits, equity shares, property, bonds or even gold. This is the risk you have to be most aware about.

Summary

Before you plunge into buying that investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More, ensure it has the features of a good investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More that appeal to you. Check for risks. Price volatility is not strictly risky, it requires time to smoothen out. Poor quality investments, however, pose a much bigger risk and threat to your investmentAn investment is made to give you a return. You make an investment if you use your money to buy either physical assets like property or financial assets like bonds and equity with an aim to receive income or gains... More journey.

Be careful of quality, always!