Personal Finance: Parking Cash and Controlling Risk

The old adage is true: you will never get rich simply putting money away in the bank. This is due to the fact that while cash investments are income-producing assets, they are not growth assets, and inflation will tend to outpace you nearly every time. Invariably, the return on your asset is unlikely to match the inflation rate.

Cash Investments

Cash investments include everything from stashing your money in an average savings account to building a portfolio of government bonds.

This type of investment is generally considered to be much lower risk than both stocks and real estate, although the corresponding returns tend to be lower also.

As with the other investments, there are a variety of cash alternatives in which you can park your money. You might notice that I used the term “park” your money as opposed to “invest.” This is because most cash investments do not provide long-term growth options for your money. These types of facilities are excellent if you want a guaranteed income, but not so good if you want capital growth in order to stay ahead of inflation.

Some cash investment options include:

1. Savings

2. Cash Deposits

3. Government Bonds

4. Debentures

Cash investments do not make up a significant part of the wealth creation strategies that I will outline in the future. This is primarily because cash-based investments focus on income, whereas the investment strategies I will describe focus on capital growth.

Other Investment Options

Here is an overview of some of the more obscure investment options available to you.

Venture Capital (investing in start-up businesses) —

Putting money into new developments (particularly ones that aren't yours) is considered highly risky. Occasionally the businesses succeed and the bets pay off, but generally this process is more akin to gambling than investment.

Art — Collecting valuable artwork can be a valid investment, but you need to bear in mind that it is not a liquid investment. In other words, it's not always possible to recoup the money you put into it. Additionally, there will be no possible income stream from this type of investment.

Collectibles (i.e., antiques, coins, jewelry, etc.) —

Generally you need to develop specialist knowledge to successfully collect valuable pieces. These “investments” are similar to art in that they add to your “asset-base” but do not generate an income and may not be as salable as you would desire. Additionally, it is virtually impossible to leverage many of these investments. This means you can't borrow against them to make further investments.

Plantations, Forestry, etc. — These investments are attractive mainly for their tax benefits, but they often have little else to recommend them. They tend to be liquid investments that have little or no returns in the short to medium term. Basically, they are high-risk, low-return investments and therefore not ideal for the majority of serious investors.

Ostriches, Emus, Alpacas, etc. — Investing in obscure animals is a very high-risk opportunity. Apart from the obvious disadvantages of disease, sickness, vet-bills, etc., there are no established markets and no track record of their performance. This type of venture has to be considered speculative at best.

There are thousands of ways to invest your money, but if you want the best and safest returns I suggest you stick with the core investments: cash, stocks and real estate.

The Risk/Return Relationship

There's no such thing as a risk-free investment.

All investments have some degree of risk — obviously some are safer than others. Risk is inherent in every investment because we cannot predict the future. If something unforeseen happens, then the performance of an investment can be affected. Changes to the economic environment, either locally or globally; a significant change in government; or an unexpected collapse in a major industry are all risks associated with our investments.

The higher the potential return, the higher the risk.

There is a basic correlation between risk and return. This is one of the most fundamental rules of investing and it pays (literally) to understand the concept. You cannot achieve high returns without accepting a higher level of risk — it just doesn't happen. Whenever you see fantastic returns being offered, exercise caution because no one hands money out for free. While high potential returns are attractive, you need to understand the cost of the investment before signing on the dotted line.

Controlling Risk

Risk can be managed in three basic ways:

1. By only investing in quality assets that reflect the risk level and return potential with which you are comfortable;

2. By avoiding the use of borrowed money in your investment program; and

3. By always keeping a reserve on hand so that if something were to happen to you or your investment you can access cash on short notice. This builds a comfort zone into your investment while at the same time lowering your risk.

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