Monday, 23 March 2009

Back to basics: 7 investment principles for successful investing

The application of all of the following seven principles should result in successful long term investment. However, achieving success requires diligence, patience and discipline to adhere to one approach. It cannot be achieved overnight with a series of short term 'punts' which, at best, can work in your favour 50% of the time and, at worst, could cumulatively destroy capital rather than growing it.
  1. Accept that you can never be 100% sure what will happen or what will be the best performing asset class, so diversify.
  2. Even if you are 100% certain, it is impossible to time the market consistently, so be patient and deploy capital gradually.
  3. Construct and manage a portfolio, not a series of independent asset classes. Be aware of the risk exposures contained within each asset class and maximise portfolio diversification by avoiding the unintended duplication of risk exposures that arises from allocating according to asset class.
  4. Diversification done one the basis of capital allocation alone can be misleading. Given that diversification is about reducing risk, it makes sense to allocate according to, or at lease be aware of, the portfolio's risk allocation.
  5. Despite their infrequent occurrences, high impact low probability events can have a severe effect on portfolio returns, often eliminating years of previous positive performance. So, hedge against tail risk.
  6. Demand a large risk premium on every investment since the level at which an investment is entered into is a key determinant of the subsequent return.
  7. The past is never a guide to the future.

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