This lesson is about RISK

By definition PROFIT is the return to RISK . It’s the factor income returned to enterprise, motivated by self interest to drive the free enterprise, market system to produce goods and services.

We all know people who seem to be born with the ‘adventure gene’. They actually enjoy jumping out of a plane at great height or throwing themselves off a small ledge into an abyss with a stretchy rope attached to their feet!

Actions that I and many others think simply go against all natural human preservation instincts. As I say to my adventure loving friends and relatives, “I’d have to be pushed!”

We all have different perceptions of risk and appetites for it.

It’s the old adage that people are either  “glass half full” or  “glass half empty” in their approach to life.  We will look at what characterizes the different risk profiles and what the implications are for asset classes that are most appropriate to each one.

We will also spell out the specific risks associated with property investment and how to mitigate them. There are some important considerations that everyone, regardless of their attitudes and conditioning should keep in mind before committing to a purchase, because remember, there is no certainty in life, only “above average opportunities” presented on the “balance of evidence”.

Any property ‘expert’ (and I’m including friends and relatives here) who tell you they know what is going to happen  is looking into a crystal ball, and a cloudy one at that!

“Risk comes from not knowing what you are doing” Warren Buffett

Educate yourself, learn and ask questions.

 

If You Fail to Plan

Nineteen years ago I made a career change and started working in the first home buyer market.

The company’s unique offer helped many to overcome the virtually impossible task of trying to save for a deposit while still paying rent. I remember clearly the client’s sense of pride and accomplishment and optimism as they took possession of what was to be their family home.                                                                                                                                                                                                                                                                                                                                                                                    Many of those clients have expressed to me years later how grateful they are for the opportunity they were given back then and the ‘leg up’ it gave them. But a few memories of that time stand out for very different reasons.

A newly settled immigrant family came in to my office one Saturday to sign the paperwork after being approved to select a property. Afterwards I asked them what they were going to do with the rest of the day and as the father started to speak tears welled up in his eyes. Thinking he was so happy about being a home owner I was surprised when he said, “We are going to vote now” and then he told me “we have never had that right before today”.

The second was of an older couple in their late 40’s who had been lifelong tenants and had met all the requirements and had been approved to come in and select a home. The wife called me tearfully on the scheduled day to say they wouldn’t be keeping the appointment. The reason why? “My husband doesn’t think he’s ready!” Both of these encounters made an impression on me that has lasted to this day.

The first reminds me not to take for granted the many privileges to which living in this country entitles me. In Australia we live in a stable and predictable environment and we can count on the rule of law to protect us and our interests. One of the many advantages this gives us is that we have the opportunity and the ability to plan, to invest and secure ourselves for the future. It allows us to look to the future with confidence, not just for tomorrow but for the long term. Doing so may entail trading off some short term satisfaction, or it might just require a little more organization and trimming of the waste! The opportunity cost long term of not doing so may mean an underfunded and uncertain retirement dependent on welfare.

According to the latest ASFA Retirement Standards index the benchmark for a couple living a ‘comfortable’ lifestyle (assumes home ownership) in their so called ‘golden years’ is almost 40% more than the Age Pension currently provides. Clearly there is a need to plan and to provide for the future. Current estimates are that on average Australian men are retiring with superannuation balances sufficient to provide this comfortable lifestyle for between 4 and 8 years, and women, for a variety of reasons, even less and yet women live longer!

That brings me to the husband who wasn’t yet ready to step outside the familiar and invest in his family’s future.

Abundance isn’t finite, opportunities exist but you need to be prepared to act on them. In economic terms profit is the return to risk, the return to the factor of production, enterprise. It needs to be calculated and weighed up against the opportunity cost of inaction.

Risk can be mitigated through financial literacy, insurance and expert and honest advice.

Which reminds me of another young client some years later who was nervous about investing despite being well positioned to do so. Her reasoning: “it’s a bit risky”. It made me realise that perceptions of what constitutes risk are as individual as the people you meet! Hers was very different to mine! She had completed one tour of duty in the Middle East and was on notice to be deployed again!

(P.S she did invest and she returned safely from her second deployment)