What are the ways of minimizing risk and maximizing profit while investing in the stock market?

I often write on Quora.com, where I am the most viewed writer on financial matters, with over 282 million views in recent years.

In the answers below I focused on the following topics and issues:

  • Is it really possible to increase your returns AND lower your risk? I show one method that has always historically worked.
  • Why are “average” people worried about taking a risk? Or is this idea a myth?
  • The Nasdaq and S&P500 hit another record high on Friday. What could explain this?
  • How can investors in developing markets like India, which may experience higher inflation rates, beat inflation safely by investing?
  • What are some expenses that we no longer need to pay for?

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What are the ways of minimizing risk and maximizing profit while investing in the stock market?

Usually, lower-risk means lower returns. Indeed, the more bonds you have in a portfolio relative to stocks, has always meant lower volatility but also lower returns:

However, this can be countered by

  1. Holding 100% stocks, say in the S&P500, until you are over 50, and then in the preservation phase reduce that a lot. The traditional advice of “bonds to age” is now outdated.
  2. Being ultra-long term in stocks isn’t risky as per the graph below:

3. You can also invest at regular time intervals to further reduce risks.

The above chart is assuming that a lump sum has been invested. If you put in a lump sum + a monthly investment, the chart will look even better, as falling markets will benefit you in that case.

4. Reinvest dividends. Take a so-called stagnant market like the FTSE100. it doesn’t look so stagnant here:

5. Don’t try to think about risk too much. The great irony is people who worry most about risk lose the money long-term!

They either don’t invest in the first place and therefore lose to inflation in the bank.

Or they try to be too clever for their own good, and market time.

6. For higher-net-worth investors, or people with access to advice, it is possible to become diversified into assets like private equity.

It is one of the few assets which has beaten public stock markets on many measures in the long-term.

Most people don’t understand the risk though, or can’t afford to them them.

Assets like these are better for a portion of your portfolio.

7. Avoid putting over 50% of what you have in illiquid assets

Don’t put everything you own into your house, rental properties or even your own business.

They can’t be sold easily and a buyer isn’t guaranteed. Covid-19 has once again showed that you can’t rely on past business returns in the future.

Many successful businesses have gone under.

Why are average, normal people afraid of taking risks?

I was watching a show on Netflix a few days ago. It focused on a murder in Cork.

It was the first murder in…..wait for it……..100 years in the area! It involved a French woman living in Cork at the time.

The murder remains, partially, unsolved. A French court convicted a man, but Ireland has refused to eradicate the accused British man, as they don’t recognize the evidence the court used.

The man has never been convicted in Ireland, despite the suspicions many have about him.

Now, what was interesting about the documentary was how people reacted locally.

Rationally speaking, it does make sense to be a bit more worried about safety, especially in a relatively small area, after such an event.

Realistically speaking, however, most of the residents would be less safe visiting London or Paris.

We saw similar things during Covid-19’s early stages. When the virus was new, people panicked.

They even started bulk buying. Supermarket shelves were empty:

We see the same thing in money. Most people don’t worry about losing money to inflation in the bank, or huge currency devaluations.

This is despite the regularity of such events. In comparison, most new investors worry about putting money to work, even though any long-term investor in the S&P500 and other major diversified indexes like MSCI World, has never lost money:

Few business owners also worry about “black swan” risks like a lockdown, but most worry about regular risks.

So, the issue is many people don’t assess risks properly, or only worry about some kinds of risks.

It is about familiarity. Lockdown hadn’t happened in living memory, so people expected it would never happen.

Putting money in the bank might be indirectly less risky than investing in a diversified portfolio for decades, but if your friends and family members all do that, it seems safer.

There is also the schooling system which encourages people to focus on “better safe than sorry”, but again they often only teach about risk in a narrow way.

As a final point, I would mention class. Often schools, parents and the media imply that people who have taken many risks are either already wealthy, or exceptions to the rule.

Deep down, many people assume that “people like them” shouldn’t do X and Y.

That could include travelling, investing and taking risks (that’s for the rich you know).

Things are changing now, fortunately, but slowly in many countries.

Did Nasdaq and S&P 500 hit record high on bets over the US June jobs?

It is difficult to say. In the short-term, markets can be dominated by speculators speculating about what other speculators are speculating about.

That was said by the late Vanguard Founder Jack Bogle, and it is true.

The media will never say “markets have risen and well……we are not sure why they have risen”.

They also analyse after the fact. They seldom get predictions right before the fact.

This is illustrated when we think about the Nasdaq. Towards the end of last year, the talk was about a rotation.

Tech did so well in 2020. The Nasdaq rose over 40%. The S&P500 and Dow did less than 20%.

Some other markets, like the South Korea stock exchange, did better than that, but some like the UK’s did much worse.

Therefore, the rotation theory was simple. As more countries opened up, more money would flow into traditional firms, and markets like the Dow Jones, FTSE100 in London and German Dax would outperform.

In the first half of the year, that looked to be the case, but the Nasdaq’s recent rise means that it has performed as well as most other markets in 2021.

I explain more here about why it doesn’t make sense to speculate about these kinds of things:

Far better to have a sensible long-term strategy and stick to it.

The following questions were asked in the adamfayed.com Quora space

What is the expected rate of growth for inflation in India? How do you beat inflation rates?

Firstly, I am not an economist. I can’t know what the future rate of inflation will be in any country, including India. I am no expert on the Indian economy.

My only guess is it will continue to be higher than most developed countries, provided the economy keeps doing well.

What I do know is:

  1. It is highly likely that interest rates offered in the bank won’t beat inflation in most countries for a few years. Where they do, you will be taking a currency risk as well.
  2. Even if you do beat inflation in the bank, the bank will be making more money from your deposit, investing that money, meaning there are better options out there.
  3. Money sitting in the bank has never beaten sensible long-term investing. It is just less volatile.
  4. Investing in a sensible, diversified, portfolio, will help you beat inflation. For example, 50% in an Indian market tracker + 50% in the US S&P500 or MSCI World. Or 1/3 in Indian Government bonds if you are older, a 1/3 in the local stock market and a 1/3 in international stocks.
  5. As the Indian stock market has a lot of opportunities, but is also riskier than the S&P500, without necessarily beating it long-term, there is a strong argument in favour of limiting your exposure to the local market, despite living in India.
  6. Inflation doesn’t always go up gradually. A currency crisis doesn’t always deepen gradually in emerging markets. Therefore, putting money to work is key.

The key is being long-term and diversified if you want to beat inflation (regardless of the rate) safely.

You can also beat it by taking a bigger risk, but i don’t think that was the purpose of your question.

What are some expenses we need to stop paying for?

What are some expenses we need to stop paying for?

Of course, this will partially depend on the person. People waste money on different things.

The pandemic, and especially lockdown, has exposed those costs people would pay out of habit.

Once all countries are out of lockdowns, I suspect that people will only go back to their old habits where it really makes sense.

In general, the following expenses are pointless

  1. If somebody is buying something due to peer pressure – to show off. If you are overspending for yourself, that is one thing, but not to impress others. One of the funniest examples I saw in China was in a hotel. Some people were just drinking cafe, but other groups were drinking fancy wine. One group of young women bought very expensive wine. They clearly didn’t like the taste….they added Coca Cola to it!

2. If you can get the same product, or a similar product, for a better price elsewhere, and it doesn’t involve any trade offs like time. Of course it doesn’t make sense to save a Euro or USD on taking a long car journey out of town, or shopping for hours on the internet.

3. Most people don’t need all that data in the era of the internet. Most of our associates, friends, family and clients can be called on WhatsApp, Skype or whatever is applicable.

4. A lot of business-related spending. It has long been a myth that most clients prefer to meet in-person, in countless industries anyway. I went remote years ago for that reason. The pandemic has made more people see that. The same with commuting costs. I did it years ago, but many people now realise they don’t want to regularly go into the office once this situation is over.

5. Over-insurance. For example, some insurance can make sense. Term life insurance is very cheap, and the pay out can be huge if you die, which nobody wants. So, it can be a cost-effective way of insuring a small risk. Likewise, in some countries health and accident insurance is a must, and other insurances can be mandated by law. But countless other industries aren’t needed.

6. Always upgrading everything, especially now that phones aren’t getting that much better every year.

7. Prime city centre real estate, if somebody can afford it to begin with. The old norm which suggested that you will get better jobs living in huge cities is eroding. It is often better to get the least housing for your needs (enough to be comfortable), and not the most expensive possible house.

Pained by financial indecision? Want to invest with Adam?

Financial Planner - Adam Fayed

Adam is an internationally recognised author on financial matters, with over 282 million answers views on Quora.com and a widely sold book on Amazon

Further Reading 

In the article below, taken directly from my online Quora answers, I spoke about the following issues and subjects:

  • Are global investors losing interest in U.S. stocks?
  • Can you make money from stock market volatility? Should you be afraid of volatility to begin with?
  • What are the best, and cheapest, countries for expats to live in?
  • How can people invest in US stocks from Africa in a pension structure?
  • Are bonds good long-term investments?

To read more click on the link below.

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