4 Methods to Choose Investment
One of the most common questions investors ask is: “Which investment is the best?” The real answer is that no investment is good or bad in isolation. A simple way to judge any investment is the RRLT framework – Risk, Return, Liquidity and Time Period. Before investing, all four factors should be seen together.
- Risk
Risk is the possibility of losing money whether partially, fully, temporarily or permanently. In some investments, the risk is very low. In others, the value may fluctuate in the short term.
- Return
Return is the reward you expect from the investment. Naturally, every investor wants good returns. However, returns should be assessed well. It is important to look at the real intrinsic / internal rate of return (IRR) of every investment, especially when cash flows happen at different points of time.
- Liquidity
Liquidity means how easily you can convert your investment back into money when required. Bank FDs, RDs, savings accounts, mutual funds and stocks are reasonably liquid. Real estate may take time to sell. Before chasing returns, every investor must ensure that enough money is available in liquid instruments for short-term needs and emergencies.
- Time Period
The investment product should be selected based on when you need the money. Make a table of your financial goals – home purchase, car, vacation, child education, child’s marriage and retirement. Write the amount required, adjust it for inflation and mention the time left for each goal. Once this is clear, choosing the right investment becomes easier.
Investment Avenues
Broadly, investment avenues can be divided into two categories – those that help beat inflation and those that don’t.
Equities, equity mutual funds, gold and real estate help in long-term wealth creation by beating inflation. Your long-term financial goals should ideally be invested in this bucket – growth-oriented assets that beat inflation. For your short-term goals, rely more on bank FDs, RDs and debt mutual funds. Safety and liquidity matter more than high returns.
“A good investment is not the one that sounds exciting. A good investment is the one that fits your goal.”-