We will try to leave our biases, theories and pet peeves on the Why Page.

There are 3 basic steps:

  1. Preparation
  2. Asset Selection
  3. Ranking and Trading

Preparation

In our mind there are a few steps that are critical to the investment process going forward.

First, you need to take an honest financial reading of your situation.

  • How much do you earn?
  • How much is that likely to grow or shrink?
  • How much do you save?
  • How will your savings rate change in the coming few years?
  • And finally, what are your financial goals.

If this sounds like the first part of a slick insurance salesman’s pitch, it is. I have a lot of respect for a good insurance salesman’s abilities to figure out a person’s financial situation quickly (and how much of it they can capture). In fact, if you want someone to do this work for you, ask an insurance salesman from a reputable company to talk to you about the various annuities that might work for your situation. Just don’t bring up the large fees that are baked into the products…unless you want a bed-time story.

Required Rate of Return

Second, figure out if your plan is realistic. Use one of the many financial calculators on the web that will tell you how much your investments have to make for you. We have made up a simple one which you can access here. Alternatively, if you would like to have something you can carry around offline, you can download the Excel file here.

Do not be shy about playing around with the numbers. Add in your assumptions and then change the target date up and down by a few years. Or, assume that you can save more or less. You may find that the idea of doubling your investible assets in 5 years is not that far out of your reach.

Or, see how long a $2 million dollar nest egg will last by putting a negative number in the Monthly Contribution box. For those of us closer to retirement than we would like to admit, put in $2m, withdraw $25k a month and see what your investments would have to make over the next 10 years to leave you with $500k. Does the thought of making 11% a year seem achievable…or does it fill you with dread?

Now, time for a reality check. Are you asking your investments to return 53% a year every year for the next ten years? That might be a stretch. Or, does your plan yield a more achievable target in the teens?

There is no guarantee that your plan will work. In fact, assume it won’t. The odds that you will land precisely on your target amount on the date specified are very long indeed. But, since our brains were wired to hunt game and find berries, rather than calculate compound interest or power curves, it is a useful exercise because it puts your assumptions into a proper and usable context.

Now that we have our preparations squared away, let’s take a look at how we can achieve the returns recommended by our financial calculators.

Asset Selection: Picking an Investment Universe

This is the first half of the Fund King System. We think that the best way to invest going forward is to identify a broad range of assets that you can use to exploit the different investment environments that are likely to arise in the future.

The first question to ask yourself is: what do you expect will happen in the next 5 years? Not just at the end of 5 years but all during those 5 years.

If you are stuck for ideas, how about:

  • Inflation, Deflation, Hyperinflation
  • Emerging Markets, Frontier Markets and Developed Economies
  • The European Union (a future “Trivial Pursuit” question?)
  • The US Economy?
  • Japan?
  • Commodities (Precious Metals, Industrial Materials, Foodstuffs, Other Soft Commodities)
  • Currency Movements
  • Technological Breakthroughs
  • Medical Breakthroughs
  • Disruptive Products and Technologies
  • Productivity/Demographics
  • World Trade, Globalization, Protectionism
  • Environmental Degradation, Green Technologies
  • Freedom: Political, Economic, Capital, People, Ideas

If you are sensible, you will conclude that a number of investment themes and opportunities are likely to play out over the next 5 years. Things look pretty volatile from where I am sitting.

Now, identify the assets that will benefit from those themes. Most people will probably come up with at least 3 or 4 core themes and each of those themes can be exploited via dozens or even hundreds of investment vehicles.

And then broaden further: are there other possibilities that you haven’t thought about? What happens if things start heading in a different direction from your expectations?

Then comes the hard part…narrowing down (so that you do not go crazy trying to track thousands of assets).

Fortunately, there are a few “screens” you can apply to make the job easier. They all fall under the general category of Appropriateness

  1. Understanding the Asset
  2. Time Commitment
  3. Downside Risk Tolerance
  4. Availability
  5. Affordability

Appropriateness: Ask yourself these questions, in this order.

Do I understand the investment?
You would be surprised how many times people invest in products, assets, options, futures, special purpose vehicles, structured notes, insurance products, limited partnerships and swap agreements that they do not really understand. If you are not sure, ask. If the person you ask can’t answer your question (or worse, won’t), find someone else to ask. If it is still not crystal clear, scratch that investment off your list until you do understand it.

Do I have the time to manage the investment?
If you buy a mutual fund, management is no more complicated than opening some mail (paper and/or electronic) from time to time. If you are trading commodity futures or currencies on margin, you are talking a whole different level of involvement. Time is our most valuable asset. Sure, you could spend hours in internet discussions trying to find that one penny stock which has the potential to be a 10-bagger. Or the one illiquid ETF that offers a slightly better deal than the liquid one everyone uses for that investment theme. But, honestly, don’t you have something better to do?

How much can I afford to lose?
Some investments lose money faster than others. The time to think about this is before you put your money down.

Availability:
Some investments are not available in your jurisdiction. Some investments require a certain level of experience, disposable income or non-residential wealth minimum. If you do not meet QIB standards, it doesn’t matter if you found the perfect hedge fund manager.

Affordability:
Make sure that your strategy isn’t designed to only make other people rich. Be careful to investigate all the charges (not just the ones mentioned in advertising copy). Is free really free? What if you want to sell it in a week?

To be continued…