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No. 5: Rich people don't invest in complex instruments they don't understand

Posted Dec 4th 2008 6:00AM by Daniel Solin (RSS feed)
Filed under: Getting Started, Rich in America

This post is part of a series where personal finance expert Dan Solin looks at money secrets that help the rich stay rich. See them all.

The headline needs a caveat: some rich people did invest in complex instruments they didn't understand.

They are no longer rich.

Hedge funds are a perfect example.

Few people really understand them. They are not regulated. It is difficult to figure out what they are investing in. It is even more difficult to determine if they have deviated from their original investment strategy.

They promise big returns without additional risk.

Many investors and even pension funds fell for the pitch.

Few took the time to look at the data.

One study of 1,917 funds found that only 17.7% beat their benchmark.

Hedge funds are imploding at an alarming rate. One site that tracks hedge fund failures reports that, since mid-2007, 95 funds managed by 58 firms have blown up.

Continue reading No. 5: Rich people don't invest in complex instruments they don't understand

No. 3: Rich people know the foundation for all returns is risk

Posted Dec 3rd 2008 11:00AM by Daniel Solin (RSS feed)
Filed under: Getting Started, Rich in America, Personal Finance

This post is part of a series where personal finance expert Dan Solin looks at money secrets that help the rich stay rich. See them all.

What if you went to Las Vegas, sat down at your favorite slot machine, and very time you dropped in $1, you got back $2? I'll bet you would never leave!

This is the holy grail. Great returns without any risk.

It doesn't work that way in Las Vegas. Why do you think investing is any different?

The foundation of returns is risk. The higher the risk, the greater the potential for returns -- or for losses.

You can achieve returns without risk. However, to do so you need to invest in what are known as "risk-free" investments. These include FDIC-insured Certificates of Deposits and Treasury Bills.

The problem with "risk-free" investments is that they generate relatively low returns. The historical returns of Treasury Bills is 3.7%. After inflation and taxes, there is little profit remaining.

Most people want higher returns than they can get with "risk-free" investments. To do so, you need to invest in the domestic or foreign stock markets (preferably both) and in bonds, which can vary in terms of safety.

Continue reading No. 3: Rich people know the foundation for all returns is risk