Monday, February 17, 2014

L.A.M. on What Is The Best Investment

We are in an age where people are obsessed with money. Walk into any banking hall and you will find RMs trying to sell you the latest investment products while scaring you with inflation numbers and how your savings account only earns 0.125% annually.

Turn on the computer and you will have ads about how to improve your returns with FX derivatives or how you can make lots of money while working from home. The country landscape is littered with showrooms, where housing agents are eager to pounce on you to explain how property is the best investment because it can go no other way but up. 

Inundated by such stimuli, it is little wonder why people are obsessed with making their money work for them.

One of the most common questions I get as a banker/economist/investor is, "What is the best investment I can have right now?". Depending on the flavor of the season, the person's risk profile and return requirements, my answer would range from REITs to bonds to commodities or to property linked stocks.

However, identifying the correct segment is only a third of the story. Apart from that, you also need to identify the correct entry and exit strategy/points. 

The truth is that it takes a lot of training, discipline and luck that get all 3 points right and if you get any of the trinity wrong, you will find yourself sitting on a two legged stool, begging for a not so graceful crash.

The world of financial investments, is a cut throat one and though there is money to be made in the market, it carries a lot of risk as well. When you are making money, more often than not someone else is losing money. When you have made a good investment, someone on the other end must have made a bad one. In this zero sum game with a plethora of players, what is the probability that an average individual can consistently out smart, out wit and out buy/sell institutions with access to data before everyone else, or governments with more resources than anyone else or professional traders who have spent more time and effort than anyone else honing their skills at making money?

This brings me to the topic of comparative advantage. Comparative advantage is an economics terms which refers to the ability of a party to produce a particular good or service at a lower marginal and opportunity cost over another. In very layman terms, it is a fancy way of saying that some people are better at some things than other people.

There are some people, who either by talent, access to information and resources or training will possess a comparative advantage over others in making money from money. While for someone else, their comparative advantage could be in photography, or auditing or whatever skill sets or passion that they possess.

Many times, we are so caught up with the financial capital side of things that we forget about improving yields on human capital. There are many financial instrument out there and the ones you are more likely to have access to, also tend to have low barriers to entry. By No Arbitrage Principle, any possibility of low risk, positive returns are quickly snapped up, leaving behind an equilibrium where no supernormal profits can be made. However, when it comes to human capital, there is only one of you. You are unique, your skill set, your experiences, your talents, your resources and abilities are unique. In terms of barriers to entry, it is extremely high. In terms of supply curve, it is perfectly inelastic. What's left is to increase the market demand for that unique product which is yourself.

                                                            (Picture from Logarchism)

As seen from the curve above, When the supply curve is perfectly inelastic, the only way to increase it's value is to increase the demand for the product. When the demand curve shifts upwards from D1 to D2, the value of the product is increased. Furthermore, as there is a very high barrier to entry (no one can replicate you unless they clone you), the supply curve is likely to remain perfectly inelastic in the long run.

So how do you invest in yourself? Well for starters, identify what is your comparative advantage. What are your strengths, your talents, your passions and your abilities?  How would you go about improving them? Do you need to invest money to attend courses, get a certification, etc? Do you need to invest time to network with the right people or to get more motivated? Finally, are you investing enough in marketing yourself, your talents and your abilities?

The best salesmen, aren't the ones who can market their products well. They are the ones who can market themselves well. When we think of Apple, we think of Steve Jobs but have we really thought about how much time, money and effort, it took for Steve Jobs to improve his presentation skills, to motivate himself and to market himself?

End of the day, everyone of us have a certain comparative advantage and we are not all made out to be traders or investors. If you are good at swimming, why compete with someone else at running? Leave the marathon, join a swimming competition and compete on your own terms. The best investment you can make is on yourself.


If you liked this, you might also like to read:

L.A.M. on Money
L.A.M. on Popularity and Success

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