I’ve been taking my returns from risky investments and placing them in with safer investments to protect my returns. Does this make sense? Are there any downsides I’m not seeing?
What you are describing, taking the profit from a high-risk/high-reward investment and placing it in low-risk/low-reward investments does make a certain amount of sense. You’re basically protecting your rewards, putting the investment returns somewhere safer. It’s the stock market equivalent of “quitting while you’re ahead” by walking away from the risk and locking into something more reliable.
This isn’t necessarily a bad idea and, especially if you’re getting close to retirement, this is a strategy which could work well for you.
On the other hand, this strategy is the reverse of what I’d normally recommend people do, for two reasons.
First, I usually recommend people start their financial journey by building a solid foundation, putting money they will find essential into the least risky places. Then putting any additional funds into more risky or volatile investments once they are in a secure situation. This way if the risky investments fail, the core money you need is still in place, still safe.
Generally, I’d suggest people approach saving and investing in this order:
- Pay off high interest debts
- Put aside an emergency fund (3-6 months worth of expenses)
- Invest in solid, reliable funds (GIC, index funds)
- Pay off low interest debts and mortgages
- Invest in more volatile/rewarding funds
It sounds like, based on the scenario described in the question, you’re starting from the bottom of the list and working backward. This can yield higher profits early on, but it’s risky. I think it’s better to get a solid base in place first and then explore more high-yield investments once you’re in a secure place financially.
The other reason I feel taking from a high-yield investment and putting it into a more conservative investment is working backward is it removes the benefit of compounding rewards. If you have an investment which is generating 20% returns, for example, then each year it performs well you’re getting another 20% profit off of your earlier gains. But if you remove the initial return and put it somewhere safe, perhaps with a 5% reward, then your skyrocketing investment doesn’t grow. It never gets a chance to apply its high interest yield to its own gains.
There is a saying: “Water the flowers, not the rocks.” In this case, you’re taking water (money) from the flowers and giving it to the rocks. Which means your flowers aren’t going to grow. If you’re still fairly young and far from retirement age, you can probably take some risks and water your flowers (high reward investments) to help them grow faster. Later, when you’re within a decade of retirement, that’s the time to start moving your investments into low-risk/low-reward options.
Comments are closed, but trackbacks and pingbacks are open.