The Top 3 Things to Decide Before Investing

The Top 3 Things to Decide Before Investing

How safe is your chess game from falling apart after a few opening moves? And, by the same token, how safe is your investment from incurring unexpected losses after just starting out?  This depends on how well you play the game or how much you know about investing. In chess, if you do three things well, you’ll be able to move toward the middle game with a strong position; and if you do the same three things when investing, you’ll be able to look forward to a good return on investment.

So what are the three things you must decide on before you move your pieces on a chess board or put your money down on an investment?

1. Evaluate your current position based on your level of expertise.

In chess, if you are playing a stronger opponent, you want to be cautious about any traps your opponent sets for you. Similarly, in investing, caution can serve you well. Complex investments can work if someone has specialized in learning them over time. For instance, collateralized mortgage obligations and collateralized debt obligation are products that slice and dice a mortgage in a way that only a well-read mortgage specialist can hope to understand. A new investor, by contrast, should focus his money on buying an ownership share in a good business stock or lending money to an asset with a good credit ratings—in other words, stocks and bonds. They should be able to get a good return on investment over the long term.

2. Evaluate your tolerance for risk based on your level of knowledge and experience.

In chess, if you are a new player, you will want to play with caution even if you think you have mastered chess theory. Similarly, as a new investor, although you may have been successful at paper trading, you should proceed with more caution when trading in real life for the first time. With paper trading, you don’t buy stocks, options, or futures with real money, so it’s possible to think clearly because the stress of losing real money does not factor in. In the real world, however, your judgment might be influenced by strong fear or desire. Alternatively, in chess or investing, you may be experienced enough to make a few bold moves that would result in large gains.

3. Evaluate your level of comfort based on a benefits-over-cost analysis.

In chess, if your comfort level is high, you might prefer to make bold moves in the way Bobby Fisher did when he was when he played Boris Spassky on September 1, 1972, in the world championships, ending almost two and a half decades of Soviet dominance. If Fischer had played more cautiously, Spassky would have been able to come up with effective counter moves. Similarly, as an investor, if your level of risk tolerance is high, you may be able to take on more risk. In futures trading, for instance, George Soros was able to break the Bank of England because he could clearly see that the British government was losing billions in artificially buoying up its currency.

In chess or investing, sometimes boldness (i.e. risk taking) is folly; at other times, it is exactly what is needed to win. The only way to decide is by first evaluating your current position, your tolerance for risk, and your level of comfort.

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