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Tips to make safe investments
Deena Katz, OutlookMoney | August 05, 2006
I made my first dollar selling lemonade in front of my house. On a hot day, mothers in the neighbourhood would be happy to stop by and give an enterprising six-year-old a dime for a cool drink, even if it tasted like the lemons had travelled through on stilts.
After a couple of weeks, I had made a few dollars and my mother decided it was time to talk about savings plans. We had one place to take it - the local bank. I wasn't exactly happy to part with my new money, but it helped to know that the bank would pay me interest to hold on to it. That seemed fair since I wasn't going to be able to spend it on candy and sodas, which was my plan.
My mother explained different asset classes. "There is that which you loan (my savings account), and that which you own (stocks and our house, for example)."
She said that the most intelligent way to invest was to choose to invest in some of each so that if there was loss, it wouldn't all happen at the same time. "Yes," I countered, "but that means that when one investment does very well, all my money won't be there." "True," she said, "but are you willing to risk everything for that one possibility? It works better if you don't put all your eggs in one basket."
The best known is the one by Brinson, Hood and Beebower that quantified the importance of asset allocation. Yes, by diversifying your portfolio, you will be capping your upside potential, but you will also be capping your downside risk.
Real estate is an asset class that does not correlate well to bonds or stocks. ETFs, on the other hand, are baskets of stocks (or other investments) of firms concentrated in a particular investment area. For example, gold ETFs will represent a portfolio of investments designed to provide returns matching the gold market index. So, you will own a little of many different gold investments.
As gold returns do not generally move in the same pattern as bonds, stocks or real estate (that is, it is poorly correlated), having a gold ETF investment in your portfolio may create a portfolio with less volatility.