In the highly commended essay of the 18-19 age group in our Young Financial Journalist competition, Joely To explores how young people can become a millionaire through investment choices.
Investing in stocks
So, you want to be a millionaire. Ok. But you’re still binging that Netflix show, it’s been five hours and you’re thinking “I should have finished some work instead!”
But what if I told you: you can be productive and watch Netflix at the same time? Yes, you’ve read that right. You can build your wealth while not actively working for a salary. All you need is time, research and a bit of luck . . .
Investing in stocks is basically when you buy ownership in companies. You won’t own their actual assets like their buildings unfortunately, but you will own part of their profits.
However, if the value of what you own goes down, you’ll retain the company’s losses too. You’re just hoping that the stock you’ve bought generates money.
Either because the company’s revenue comes to you in the form of dividends, or if the stock price goes up then you can sell it at a higher price, for profit.
What’s key to building wealth is then reinvesting those returns to obtain compound gains.
So, it’s all a bit like betting? Perhaps.
What are the risks in stock investment?
But here are some things you need to consider. Let’s say you’re quite an adventurous risk taker, and you want to find the “millionaire treasure spot” on a faraway island. You have to evaluate all the risks to survive.
Spot a slightly dangerous-looking shortcut across the ocean? Sure, there’s higher risk but you could find more of the treasure along the way. In the world of investing, this could be putting your money in stocks.
Of course, if you’d rather have a less volatile journey, you could walk via the sandy path – but this could take days. In other words, you could put your investments in cash equivalents or bonds that pay a fixed rate of return, which pose less risk but offer lower reward.
So today, though Pfizer’s new vaccine has caused higher bond yield potential, it’s unlikely that this will make you a millionaire by the age of 30.
Plus, beware that less risk doesn’t mean no risk at all because just as sand can be eroded away, inflation may erode your returns over time.
Therefore, you must decide whether you’re in this mission for the short or long run, and plan your journey beforehand.
You’ve chosen the ocean route. But can turbulent waves become life-threatening?
If the waves are too rough and headwinds too tough, you’ll need a range of back-up routes. By diversifying across asset classes, you can reduce the risk of falling into the ocean and losing everything.
In other words, you’ll maintain your portfolio’s overall returns as the decline in one asset will be counteracted by an increase in another, provided that it experiences a different market cycle. Or you could pack an emergency life jacket and insure, or “hedge”, against the risk.
How risk averse should we be when investing?
Yet, how scared do we really need to be? Why not ride the waves instead to try to reach your destination faster? Sudden downward movements could be your chance to buy more stocks for higher future gains…
But we can’t forget: even in a storm, we shouldn’t make irrational decisions based on emotion. Protect what you already have, because ultimately the risk of losing this may be greater than the risk of volatility.
It’s getting dark. You’ve now actively battled the waves and lie back exhausted in the boat, passively carried by the calmer wind.
You might think it’s easier to replicate market returns through passive investing instead – such as through exchange-traded funds (ETFs), that offer a basket of stocks.
After all, if we consider what’s called the efficient market hypothesis, share prices will always reflect their fair value. So perhaps there’s no point searching for undervalued opportunities because you won’t earn excess returns anyway.
Setting all that aside, the point here is that no matter what you choose, you can’t predict a sea storm. Even with increasing regulatory scrutiny, social media and celebrity influencers can entirely disrupt your expectations.
Namely, amateur investors who recently initiated a Reddit-inspired surge in the share price of failing retailer GameStop. Or Elon Musk’s monosyllabic tweets sparking further price spikes, including in cryptocurrencies Bitcoin and Dogecoin.
But for how long can we ride the wave of sentiment? For stocks, the core business itself might not have fundamentally changed.
As Warren Buffett once said, “be fearful when others are greedy”. So, don’t just follow others. To build long-term wealth, consider companies which genuinely interest you and ones you truly understand.
Well, it’s safe to say you understand how Netflix works. Next time you’re browsing the library, why don’t you ask yourself: how exactly are they keeping me hooked?
Perhaps you’ll decide to invest, and not just watch. And, even if you fail, you’ve still invested your time to build the wealth of knowledge.
Find out more about our Young Financial Journalist competition