Do profitable and secure investments really exist?
Profitable and secure investments are the holy grail of the financial world: they are more myth than reality because it is known that they exist, but finding them is a titanic task.
Indeed, if there is one universal rule about money and investments, it is that every investment entails a series of risks. The key is knowing how to identify them and being clear about which ones are important to you, because even the definition of risk and return varies according to each saver.
What do we mean by risk?
From a theoretical point of view, there are different risks in an investment, from market risk to liquidity risk.
The first refers to the danger of investing in one market or another, for example, in the stock market or cryptocurrencies. The second relates to the ease and speed with which you can get your money back. It is not the same to put money into an investment fund, where you can withdraw your funds at any time, as it is to invest in a house that will take time to sell, or a pension plan where you will have to wait 10 years to get hold of your savings (unless there are special circumstances).
To these tangible and measurable risks you have to add your own perception of risk. In other words, what security means to you.
Investment security can range from a complete guarantee that you will not lose money, to accepting the possibility of certain downturns if these are accompanied by higher returns.
It is this perception that leads many firms in the financial sector to use volatility as a measure of an investment’s risk. Volatility is how much prices vary or fluctuate. In other words, how much an investment can rise or fall and how quickly it will do that.
As a general rule, more volatile investments (the price goes up or down very quickly) are seen as riskier than those with low volatility (these are more stable).
The truth is that volatility is only one factor used to determine risk in an investment. The best general advice to follow is to take a risk that allows you to sleep soundly at night. It’s as simple as that.
What do we mean by return?
Just as risk has a general and a very personal side to it, the same is true of return.
What is considered a profitable investment? What return should we expect from an investment? The truth is that there is no single answer. Return, risk and the investment term go hand in hand. To put it more clearly, a 5% return for a one-year investment may be fine, but this is not enough for a 10-year investment. That is why time is so important when it comes to investing.
If we were to determine the minimum you should expect of an investment, it would be that it should exceed the inflation rate. Inflation directly affects your savings and investments by decreasing the value of your money and the return on your investment.
For example, if you get a nominal return of 1% on your money but inflation is 4%, you are actually losing 3% in real terms. So a profitable investment should outperform inflation.
From that point on, what you regard as profitable is up to you. Some people consider a 14% return on investment to be profitable; for others 4% is enough.
Keys to making a profitable investment more secure
As you have just seen, 100% secure and profitable investments do not exist or only exist in some very specific cases. For example, a deposit that yields 4% when inflation is 2%.
However, some investments are more profitable and secure than others, and there is a way to add a layer of security to your own finances. There are two ways to achieve this:
- Invest for the long term. Time is one of the best weapons for reducing risk in your investments. Here we explain the importance of time when investing.
- Diversify your portfolio. In other words, don’t invest all your money in one product or type of asset. Here you can see why and how to diversify your investments.
You can also reduce the risk of your investment portfolio and have more security by always keeping some money liquid. In other words, setting aside money as a cushion for contingencies that goes a little beyond covering emergencies. This way you know that, if your investments do not do so well, part of your expenses will be covered.
Which products are profitable and secure: the importance of your risk profile
Deposits, public and private debt, money market funds and certain PIAS are examples of safe products, although these are not necessarily profitable.
In the end, the key to finding safe and profitable investments is to make sure you take your risk profile into account when you are looking for them. This profile is determined by the length of time you are going to invest (the time horizon), your attitude to risk and aversion to loss, the level and security of your income, and your ability to save.
This will determine which products are most suitable for you. To make this clearer, a deposit is secure and can be profitable, but it may not be the best investment for a 25-year-old who is investing for the long term and who can bear a little more risk in exchange for a higher return.
However, this kind of deposit may be suitable for a person close to retirement or someone who only wants to invest for a year. One approach is to choose the risk level of your investment according to your age and, from there, to identify which investment products are suitable according to your risk profile.