Omar steadily earned more money with each promotion since he left campus. Over five years since attaining his bachelor’s degree, he felt ready to invest. He deliberated over how to begin investing and which types of ventures made sense for his circumstances.
Omar attended an event hosted by the Capital Markets Authority to educate Kenyans about stocks and bonds, went to the Kenya Homes Expo to look at real estate options, spoke to several banks about fixed term deposits, talked with friends in America about buying derivatives, and read the Central Bank of Kenya’s website about Treasury bills.
Overwhelmed with possibilities, he just kept his money in his current account and endeavoured to just decide next year.
Many would-be investors feel beleaguered with choices and fears of consequences such that they frequently choose inaction or only the simple option or two that they understand.
Inasmuch, many Kenyans stand woefully undiversified and at risk for significant losses if one of their few chosen investment types suffers a market decline.
So in honour of USIU-A’s student-run Business Association Club’s contest, Business Talk commences a new mini-series on investment management decisions. Whether managing a business, driving a car on a trip, starting a family, or beginning to invest, Omar needs a plan. Investing is no different. He must decide what he hopes to achieve.
One must form and follow a strategy for what to achieve. So Omar and anyone like him must make some simple decisions encompassing the following six pre-investment options that will inform his choices.
First, decide the time horizon for your investment goals. If you desire to invest in the short-term in order to pay for graduate school, then your investment decisions would stand starkly different than saving long-term for retirement.
Typically, if an individual holds a longer time frame exceeding 10 years, then he or she may take more risks with their money since more time allows for recovery in the event of losses.
Second, how comfortable are you with risk? Measure your risk tolerance from a number one all the way up to a ten. Allow one to represent absolutely no risk at all in that you need to not lose your principal investment under any circumstances.
Then let a ten stand for extreme financial risks whereby you could quickly lose all of your initial investment. Notice 30% swings in regional stock prices year over year, so publicly traded equities might equal a six on the risk scale. Whichever number you choose between one and ten, let that inform your investment decisions.
Third, what level of return do you require? Would only 1% yield per year satisfy your goals? How about 35% per year? Clearly, every sane individual would desire the highest ethical return possible.
However, people widely know that there exists a positive association between risk and return. In order to earn excessive returns, such as 30% per annum, then one must take on considerable risk of loss. If an investment holds less risk, then investors do not need as much compensation.
As an example, since investors consider treasury bills issued by the United States as the most risk free choice in the world, then the US federal government often needs not to pay more than one per cent on an annualised basis to investors.
By contrast, investors consider the Government of Kenya as comparatively higher risk, so Treasury bill rates here usually historically fluctuate more than eight per cent and at times dramatically higher.
Fourth, how much diversification do you desire? If you decide to spread out your investments across a variety different asset types, then you can lower your risk. Do not place the majority of your wealth into just one or two categories. Take your hard earned money and put your portfolio into a variety of types.
Kenyan’s favourite store of investment value entails real estate of all kinds. Russians, by contrast, hold gold and precious minerals, Americans choose stock equities, Europeans often rely on pensions, just like many African societies retain cattle as their preferred investment type.
Unfortunately, many Kenyans assume that property prices cannot decline. However, from Japan to America to the UK to Australia to UAE, many who previously thought the same came upon a rude shock when real estate bubbles burst.
While real estate still seems like a reasonable investment option in Kenya, a prudent investors still mixes varieties of assets from lowest risk up to highest risk and return as follows: North American or European treasury bills, developed country corporate bonds, Kenyan Treasury bills, fixed term deposits, real estate rentals, corporate bonds, developed country equity markets, real estate land speculation, private equity placements in privately held established firms, equity and bond investments in other African and developing economies, derivatives on global markets, global property speculation, and equity investment in startup firms, among other possibilities.
Fifth, you need to decide how actively or passively you want to involve in your investments. Those who invested in agriculture with small scale greenhouses realised that such investments required far more active management than many originally expected.
Private equity placements often require more activity while Treasury bills allow an investor to utilise a passive approach.
Sixth, will you need urgent liquidity and, if so, how much? Tying up your assets in real estate or a private equity placement locks your money away and takes longer to unwind in order to get you cash in an emergency.
A simple current account obviously provides the fastest access to cash. However, how liquid are your other investment options between the two extremes?
Understanding your goals and your comfort levels enables you to discover which investment choices make sense for you. Next week in our mini-series, we will look into how to choose stock equities. Discuss investment choices with other Business Daily readers through #InvestInKenya on Twitter.
Prof Scott serves as the director of the New Economy Venture Accelerator (NEVA) and chair of the Faculty Senate at USIU-Africa, www.ScottProfessor.com, and may be reached on: email@example.com or follow on Twitter: @ScottProfessor .
SOURCE: BUSINESS DAILY