The 3 most important concepts in investing

Written by
Peter Dunn

"Hey Pete, I've got an extra $___ sitting around. What should I do with it?"

A day doesn't go by that I don't get a question like this via email, Twitter, or Facebook. I certainly appreciate the question because it comes from a place of wanting to do better. Whereas it may seem like an easy question to answer, it's actually quiet challenging. I generally need answers to the following questions before I can even begin to tell the person what to do:

  1. How much debt do you have?
  1. How much money do you have in reserves?
  1. What is your monthly household income?
  1. How long until you need the proposed investment amount?
  1. What is your past experience with investing?

Each one of these questions branches into about 5 other questions. So where on your end investing seems as simple as investing $___, on my end it's a matter of several technical issues. In fact, if anyone has ever given you investment advice without asking these questions, then I wouldn't trust them AT ALL. I'm NOT trying to make this about me. I'm trying to make this about YOU.

Although the previous listed questions are very important, the three concepts that matter the most in investing are listed below. You may think you understand one or two of them. But I doubt that you understand them exactly as you should. And that's where your old buddy Pete steps in.

1. Time Horizon- How long until you need the money? For instance, I'm 33 years old, and I'm not allowed to touch my "retirement" savings until I'm 59 1/2. That means that my Individual Retirement Account (IRA) and 401k money have a time horizon of 26 1/2 years. Knowing your time horizon is VITAL. I have seen too many people come to me after they had lost house down-payment money because they had invested it in something they shouldn't have. If you are going to need the money at all in the next 2 years, then it shouldn't be "invested" at all. It should be saved in a simple money market account or CD. Has someone told you otherwise? Send me their number, and I will call and yell at them. And if you (or more likely your parents) are within 5 years of retirement, then you need to chill the hell out, and make sure that you don't ruin your retirement.

2. Risk- There are several types of investment risks. Most people just think of something called "market risk". This is the risk that the stock market can fluctuate. In my opinion, your task as an investor is to accomplish your goals with the least amount of risk taken. I see this all the time with people. They are on track to accomplish their retirement or college savings goal, and then they get WAY too aggressive and screw everything up. All they had to do was breathe. I call this the Michael Jackson problem. Right after the Thriller album came out in the 80's, Michael Jackson was pretty much the greatest human being on the planet. All he had to do was NOT screw up. He had it made. Guess what happened? Well, I'll let you sort that out. But it wasn't pretty. DON'T TAKE UNNECESSARY RISKS.

3. Consistency- "Pete, I would like to invest $50,000 today." Okay. But I would rather you invest that $50,000 over a set period of time. Dumping chunks of accumulated money into the market is rarely a good idea. The market fluctuates, and if you put that money in right before it drops, then you won't be sending me a Christmas card. However, if you invest that same $50,000 over a 6 month period, then you take some of the volatility risk out of the market. Or better yet, just invest every month (when you are ready to invest. I really hate disclaimers) instead of letting the extra savings accumulate.

I hope this helps. BTW, yes this was advice on investing. But it is not meant to be construed as investing advice. There, my lawyer is happy.

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