People often make unwise decisions about their money when it comes to investing.
Get-rich-quick schemes, multi-level marketing opportunities and solid investment opportunities have cost many people their retirement savings and driven them into debt.
There are too many frauds and scams to list them all, so here is a checklist to help you think things through and avoid traps for the unwary.
For convenience, all forms of investment opportunities, schemes, ideas and business deals are referred to as “deal”.
Keep calm and collect data and think things through before making a decision. These questions may help.
1. Am I making an emotional decision?
Never feel obligated to say yes just because your friends are involved. Many a successful Ponzi scheme has worked through referrals.
2. What are the up- and downsides of the deal?
The upside is what you could potentially gain. If the upside is already a market trend, ask yourself if this is really a such good deal.
For example, if developers are already discounting prices, is buying this house at a “special” discount worth it?
The downside is that anything that could go wrong in the deal. Virgin founder Sir Richard Branson looks for as many downsides to a deal as possible, including the short- and long-term implications for other deals and his finances.
3. What are the opportunity costs if I invest money in X deal?
It is important to consider whether your time and money, both finite resources, could be better spent elsewhere. Your network and net worth might restrict your access to good deals, but that does not mean they do not exist. Ask someone who is smarter or more connected for their opinion.
4. Am I in a financial position to bear the risk for the promise of potential returns? Do I have a safety net if things fail? How can I hedge my risk better and reduce my downside?
If you are investing in the stock market, have a rainy-day fund (six months’ salary) and health insurance before you even consider investing.
You do not want your quality of life to be affected if the deal goes south or if something unexpected happens.
5. Have I done enough research and validated my assumptions with multiple sources, including experts with experience? Do I understand what my odds are?
If someone proposes a deal, chances are there is already information asymmetry, which means they know something you do not.
You must clarify as many doubts as your instinct musters. Try to bridge the knowledge gap and do not be afraid to ask for help.
6. What are the immediate tangible benefits?
Some schemes (or courses) offer intangibles such as access to information and connections, for a price. It may sound good on paper, but such intangibles are futile without action.
The more immediate and tangible the returns are, the better.
If you do want to invest in an intangible, acquire meta-skills, for example, critical thinking and business evaluation.
7. What’s their angle and where do I fit in? How does X deal get people to part with their money? What’s their business model? Who else is in it and why?
Are there signs of desperation? Some Red flags: “Everyone is doing it”, “It’s the next big thing”, “It’s an exclusive time-sensitive opportunity for a select few”, “Your friends are making so much money from X”.
If the deal sounds too good to be true, it probably is.
This article first appeared in The New Savvy
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