The life of an SME is both challenging and exciting. Apart from a viable business idea, committed team and consistent efforts, an SME must also excel at financial planning and investing prudently. However there are some common mistakes made by SMEs when they are looking to invest. Based on my experience of being a financial advisor to several small business owners, some of these investment mistakes in my opinion are:
Mistake 1: Short-term investments
Many SMEs, even second generation businesses, prefer trading to investing, which in my view can be counterproductive. Markets can be volatile in the short term. This is despite the fact that they have practically no time to manage their investments.
Eg: One of our friends trades in futures and options as it gives him a quick buck; however he also experiences losses periodically. A good idea is to focus on investments that are asset backed. A winning portfolio is one that has a mix of long term and short term investments. Just as a business focus must be long term, the same applies for investments. Therefore my advice to this SME would be to buy stock as well as look at taking a futures position in equal proportion. Also it would be prudent for him to have a long term portfolio.
Mistake 2: Investing in unsecured loans with friends
A client of mine gave an unsecured loan to a family friend of his. Unfortunately it didn’t get returned. He gave the loan without security because he thought he knew his friend’s business. However money is hard earned and should not be disrespected. There is a saying in Hindi “Lakshmi badi chanchal hoti hai, agar dhyan na do to chali jaati hai” (The Goddess of Wealth is fleet-footed, if you are not attentive, she will go away).
The lesson is ‘to invest in asset backed ideas’ which have a good level of liquidity.
Mistake 3: Uninformed investment decisions
If one has to generate wealth, the decision needs to be an informed one. Many SMEs don’t look at fundamentals of the investing product/idea before investing. They invest everywhere, even if they do invest, which as we all know doesn’t lead to out-performance at a portfolio level.
Mistake 4: Buying a lot of policies
Maybe because they need to take loans, policies are bought indiscriminately by some SMEs. However if you separate investments and insurance, your experience as an investor is usually better as policies have more charges. A term plan is the starting point for insurance.
Eg: One of our clients bought a policy ten years back. He showed us the returns which he thought was good. However when we calculated the returns over the period it was about 9% per annum. An average mutual fund would have delivered 12% over the same period. Over ten years it means an additional 50% more in profits basis compounding.
Mistake 5: Not understanding that durability of trend is more important than taxation
If you are investing, the durability of the trend is more important than taxation. Also, the quality of portfolio matters.
Eg: For a client, we recommended a reallocation from his policy to investment products. To be fair, he did follow our advice, however taxation remained a major concern. If the trend is right, the money made exceeds the taxation criteria involved.
What are some of your learnings and challenges with regard to investments? Share your insights in the comments section below.