This year has without a doubt been a rollercoaster of events. With the economy being the most affected, investors are scouring the market, opting for safe investments that generate high-value yields. Investing your hard-earned money and years of savings can be a daunting task, hence knowing the risks and returns is essential before making a staggering entry into the investment business.
The goal of each investor is to find a high-return, low-risk combination when investing. Unfortunately, this would only be possible in an ideal world but not at present. However, in reality, risk and return go hand in hand which means higher the risk, higher the reward.
When deciding where to invest you have to know which option suits you the most. Before investing, you have to match your own risk profile with the associated risks of the product while choosing an investment avenue. There are some high-risk assets that have the ability to yield better inflation-adjusted returns in the long run than other asset types, although other assets have low-risk and therefore lower returns.
Types of investments:
- Savings account
- Stock market
- Real estate
- Mutual funds
Generally, when we think of the word ‘invest’ the first thing that comes to mind is putting aside your money and forgetting about it for multiple years. Although that is an investment option, it is not the only one.
A savings account is the simplest investment method. As mentioned previously, all you have to do is set some money aside and get interest in simply having money in the account. A savings account is not the ideal investment because the return on investment (ROI) is extremely less. The risk when putting your money in savings accounts is negligible which is why there are little to no returns. In fact, the returns may be so low that you risk inflation eating away at the value of your deposit.
Risk: Extremely low
Return: Extremely poor
The stock market is one of the most beneficial places for an investor to put their money in but by far one of the most complicated investments. When you purchase a stock, you own a small percentage of the company hence when the company profits, they pay you a portion of the profits in dividends depending on the number of shares you own. On paper, this may sound like an easy task but in reality, it is quite the opposite.
The stock market is extremely volatile which means you can either gain tons of profits or you could lose a lot of it only in a matter of a few seconds. Short-term investing requires immense focus and is extremely time-consuming and risky. This method of investment might not be everyone’s cup of tea as timing your entry and exit is not easy at all.
However, short-term investments could also result in huge returns if you know what you are doing. Analyzing the market, checking the fundamentals (finances) of the company and looking at the earnings per share (EPS) are some of the factors involved when investing in the stock market.
The story changes when talking about long term investments. According to a Fidelity report, the best investors are dead or inactive. Long-term investments vary from 5-6 years all the way up to 20-30 years. The longer money is invested, the more potential it has to grow. While there’s too much uncertainty in the short-term market, over the long run, the stock market will most certainly rise.
Risk: Extremely high
Return on investment: Extremely high
The real estate market has been available for a long time but now people are beginning to take notice of the immense potential that it offers. Real estate industry is one of the safest and profitable investment options for medium to long-term investments. In Pakistan, there are three major types of real estate you can invest in.
- Investing in plot files
- Investing in plots for resale
- Purchasing a property to rent out
Investing in plot files:
A plot file is essentially a future plot in a major housing project, shop or a commercial building. Plot files are paid in instalments according to the payment plan provided by the project. These files are paid while the society is in its early stages of development. As the society undergoes development, the rates of the plot files will also proliferate. One of the advantages of investing in plot files is that you can sell the file without having to pay all the instalment fees and gain the prevailing profits. This type of investment is best for short-term investors with low risk and medium to high ROI.
Investing in plots for resale:
Investing in plots for resale is one of the most practised and profitable methods to invest in real estate. In this approach, one purchases and pays the complete price of the plot and will hold on to it until the desired level of profit is reached. This type of real estate is always profitable because most people investing are passive investors and are looking for a safe investment for their excess savings. These investors are looking at a longer time-frame with lower risk and high return on investment.
Purchasing a property to rent out:
In this type of investment, one will purchase a home or a commercial shop and rent it out to tenants to generate a consistent income. The benefit of this investment method is that you keep receiving a monthly rental income while still keeping the ownership to yourself. This requires you to have surplus capital in order to purchase a pre-built home/commercial or construct it by yourself. However, this method is most commonly practised by those who want a stable source of income, particularly retirees.
Risk: Very low
Return on Investment: High
Mutual funds are a collective investment scheme in which funds are gathered from multiple investors and a licensed organization which is verified by the government invests the money on your behalf in financial assets to generate profits or gains. Mutual funds are relatively liquid when compared to real estate since you have the choice to withdraw your investments and convert them into cash in no time.
Types of Mutual funds:
- Equity funds
- Fixed income funds
- Money market funds
Equity funds: Sometimes referred to as mutual funds (investing in publicly listed stocks as opposed to private stocks) are the most unpredictable of the three, with their value increasing and dropping rapidly within a brief span of time.
Fixed income funds: Bond funds, also known as fixed income, invest in corporate and government securities via dividend distributions in order to provide income. To raise the overall return of an investor, bond funds are also included in a portfolio by offering stable revenue as equity funds lose value.
Money market funds: In contrast with other mutual funds and most other portfolios, money market funds have comparatively low risks. They are limited by investing only in particular high-quality, short-term transactions provided by the government, companies, state and local governments.
Risk: Low or medium risk
Return on investment: Medium returns
Investing in gold is very common in South Asian countries particularly Pakistan and India. Gold investments are not ideal because its value changes every day. Furthermore, its returns fluctuate with the market which means if the price of gold drops, the investment value also goes down. However, gold holds an inherent value over a period of time. Even if the price falls, the underlying value of gold does not change much mainly because it is a commodity.
Risk: Low risk
Return on investment: Medium returns
Some of the investment types mentioned above are fixed-income while the others are market-linked. Both of these play a major role in the process of wealth creation. Market-linked investments offer the potential of higher returns at the same time carrying higher risks whereas fixed-income helps in preserving the saved wealth. Always keep factors such as risk, return and the time-frame before choosing the best investment option for you.