Are low-risk, high-return investments a myth?
Investing at its very core is simple. It's all about risk and returns. But is there a thing as a low-risk, high-return investment? MoneyHub discusses.
Post summary:
- Assessing risk in investing
- 4 types of low-risk, high-return investments
Assessing risk in investing
Investing, at its very core, is simple. It’s all about risk and returns. How much incremental euro are you willing to risk to gain a euro?
Warren Buffett simplifies this with this advice on investing:
- Rule 1: Don’t lose money
- Rule 2. Don’t forget rule number 1
Risk is thus defined by how different the returns are, not losing money.
To further explain, risk is the uncertainty of a loss; you could lose your capital on an investment.
Stocks and shares are riskier than government bonds, but they typically accumulate higher returns in the long term. The amount of risk associated with stocks and shares varies greatly.
Stocks are riskier when their valuations are high.
Stock markets have convinced us that to minimise risk, we should invest our money in well-managed hedge funds.
Naturally, these funds require investors to pay fees to manage them. Thus profits, whilst generally higher, will only be made once fees have been paid.
This is simply a measure the stock market invented to sell you more managed hedge funds.
When assessing risk, short-term and long-term considerations come into play. In the short term, breaking even is an end goal.
However, most investors strive for the long term and should consider two critical factors: inflation and liabilities.
Inflationary effects are minimal in the short term. Still, it does matter in the long run because losses from inflation will compound over time.
Turning to liabilities that grow over the long term, funds like pension plans, life assurances and endowments have liabilities they need to fund. Individuals are impacted by the obligation to meet retirement goals and family responsibilities.
The risk, therefore, represents the uncertainty of a shortfall in achieving the projected liability – the end goal.
Rather than recovering their investment, investors should assess the probability of achieving the required rate of return – their end goal.
Essentially, what amounts to low risk is different to one investor than another. The difference is not surrounding what constitutes high returns but the end goal for the principal investment.
Four examples of low-risk, high-return investments
1. P2P loans
P2P investing has become one of the fastest-growing alternative investment vehicles, providing investors with diversified portfolios and delivering high returns.
With most platforms providing various capital protections, including buyback guarantees, guarantee funds, and a voluntary reserve, the risk to investor funds has been minimised.
Coupled with the steady income returns, P2P loans make for a sturdy investment for those seeking lower risk to their capital.
Typical P2P loan rates of return can range between 6% and 20%, even after accounting for management fees.
2. Property
Property investments can leverage high returns through rental income, appreciation, and profits generated by business activities that depend on the property.
Other returns are through tax advantages and lump sum returns should investors sell the property concerned.
Property investment trusts offer an alternative way to invest in property without owning, operating, or financing properties, thus removing the hassle of property management.
Residential rental properties, for instance, have an average return of 10.6%. On the other hand, commercial property has an average return on investment of 9.5%.
3. Timber
Timber has been a favourite alternative investment of investors for over a decade. The best part about timber is that you don’t do anything. Every year the tree grows, you make 2-4%, assuming constant timber prices.
The best part is that you don’t have to sell when timber wood matures for harvesting. Investors can hold their timber investments until they are happy with the current prices at which to sell. Typically, timber prices correlate with the housing market.
However, they are unrelated to the stock and bond markets, providing relief should a stock market slump and offering returns around 7%.
4. Rare coins and precious metals
Similar to timber, buying precious metals like gold, silver, or rare coins. Rare coins and precious metals are not as closely related to the global economy’s performance as the stock market is.
Precious metals and rare coin prices are often closely tied to the price per ounce of gold and silver rather than any other index.
Because of this, rare bullion coins are generally considered one of the less risky investments on the market. Precious metals prices range on an average yearly return of 3-4%. Sometimes, prices hit decade highs of 15-20%.
Final thoughts
Alternative investments are much less risky than investing in stocks, shares, bonds, and mutual funds.
Additionally, the returns they make are usually more significant.
Investors have more control over alternative investments, which provides a higher safety net because of this control.
In summary, don’t let the stock market define risk for you.
Taking on more risk does not necessarily equate to higher returns. The causality could be the opposite; investors demand higher returns for shouldering more significant risk.
Low-risk, high-return investments aren’t a myth – they merely require assessing an investor’s end goals.
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