Chapter 1 WHY INVEST?

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Chapter 1 WHY INVEST?

• The reasons for investing
• A definition of investing
• Investment goals
• How investing benefits the economy and society

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The importance of investment decisions today

• Larger menu of investment choices
• Longer life expectancies
• Trend toward self directed retirement plans
• Future of Social Security and traditional
  pensions
• Flat growth in personal income
• Changing labor market

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A brief history of investing

• Investing doesnt have that long a history
• Some background on joint-stock corporations
• Early history of stock markets and stock
  ownership
• Investing in the post-war era

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The investment process

• Some preliminary steps
• Prepare current financial statements
• Establishing investment goals
• Short term and long term goals
• Monetary and non-monetary goals
• Importance of goals being specific and realistic
• Reviewing insurance coverage
• Establishing an emergency fund

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Risk and return assessment

• What holding period is appropriate?
• What holding period is appropriate?
• What expected return is necessary to achieve
  goals?
• How much risk is tolerable?

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Other questions

• Investors tax status
• Preference for capital gains or income
• How much time can you afford to spend managing
  your investments?

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Investment selection

• Major investment options
• Stocks
• Bonds
• Money market instruments (cash)
• Strategic asset allocation
• Tactical asset allocation
• Passive versus active investing

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Investment management

• Evaluating performance
• A life-cycle approach to investing

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Investment truisms

• Lessons of history
• History can teach us much about investing
• However, the past is no guarantee of the future

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Positive relationship between risk and return

• Riskier investments have to promise higher
  returns
• People are risk-averse by nature
• Benefits of diversification
• Helps beat the risk/return tradeoff
• Diversification works because security returns
  are not perfectly correlated over time

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Positive relationship between risk and return-
Cont.

• Investing knows no national boundaries
• Financial markets function pretty well
• Markets are fair, open and orderly with lots of
  buyers and sellers
• Characteristics of well functioning markets
• Prices react quickly to new information
• Existence of equilibrium pricing relationships
• No easy money left on the table

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Figure 1.1 The Positive Relationship
Between Risk and Return
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Mistakes happen

• Fad investing and chasing returns
• Ignoring the impact of taxes and inflation
• Selling after a big drop or buying after a big
  increase
• Hanging on to a loser
• Failing to diversify
• Trusting the self appointed touts and gurus