How to Invest For High Returns & Avoid Losing Your Original Investment

This post is written in response to a reader's question. The reader asked…

How Can I Get the Highest Return While Minimizing Risk?

This is the $64 million dollar question—the holy grail of investing. Every investor seeks to maximize his return while minimizing risk (mainly the risk of losing his original investment, but also the risk of looking dumb by making unwise and foolish investments). Generally speaking, the higher the return, the higher the risk. "He who bears the risk reaps the reward." This is true in mortgage banking, small business, the financial markets, personal relationships, and many other areas of life.

The corollary, of course, is that the risk-bearer must also suffer the consequences if there is no reward, but rather a penalty (loss of money, time, reputation, etc.). If you want to decrease your risk, realize that you will be limited (usually) to investments that generate lower returns.

There are, however, some exceptions to the "risk-return correlation." Risk can be lessened by skill, knowledge, or access to opportunities & resources that the majority of investors do not have access to.

The First Rule of Investing

The first rule of investing is that you should never invest money that you can't afford to lose. The money you invest should not significantly change your lifestyle, if it were lost. If you invest with "scared money"—money that you can't afford to lose—it may affect your judgment and cause you to make poor financial decisions. People who invest with money they can't afford to lose usually make emotional decisions (based on fear of loss) that negatively affect their investment returns.

How Do I Determine the Best Investments?

The best investments for your particular situation will depend on several factors: your age, your risk tolerance, and the amount of time you want to spend managing your investments.

Your Age

If you're young (20's, 30's), then you can afford to take more financial risks, because you have more time to recover from potential losses. If you're older (40's, 50's, 60's), then you will generally make more conservative investments, since you have less time to recover from large financial losses.

Your Risk Tolerance—Preservation of Capital vs. Growing Capital

If preserving capital is your number one goal, then I'd suggest investing in CD's, Treasury bonds, Treasury bills, money-market accounts, and other "safe" investments. To find the best CD rates (in the United States), be sure to visit Bank Deals website, which lists the best rates on CD's, and money market accounts nationwide. If you are looking for a relatively "good" return in a short period of time, you can usually find a bank CD that offers 1% a month for 6-7 months. One-percent a month is not a fantastic return (especially compared to other available options), but for a risk-free investment (FDIC insured), it's pretty good.

Given the continual decline of the U.S. dollar, I suggest moving some of your assets into non-dollar-denominated investments. This could be foreign currency CD's, foreign bonds, foreign stocks, or foreign real estate. For a relatively "safe" investment (FDIC insured), you may want to explore Everbank's Foreign Currency CD's. Investing in foreign currency CD's will allow you to diversify out of the U.S. dollar.

If your number one goal is maximizing your return, there are thousands of possible investment vehicles—all more risky than CD's, bonds, and money market accounts. Some possible options include…

• Investing in local real estate (provided you don't live in a "bubble" area).
• Exchange Traded Funds
• Publicly-traded stocks
• Stock options
• Mutual funds, including closed-end mutual funds (which trade like stocks)
• Investing in state tax leins (Note: Some states have tax deeds, instead of tax leins.)
• Investing in your own private business
• Investing in someone else's private business
• Lending money to a real estate investor for a guaranteed return (i.e. 3% or 5%) each month.
• Buying a business and growing sales & revenue

How Much Free Time Do You Have Available to Manage Investments?

The amount of free time you have available can affect what you invest in. Certain types of investments are more "hands-on" and require more day-to-day involvement. Other investments, however, are more passive and "hands-off." For example, investing in local real estate and renting properties to tenants is more "hands-on" and time consuming, than purchasing publicly traded stocks.

Likewise, buying a business and growing revenue is very time consuming when compared to buying an exchange-traded-fund—however the ROI from the business revenue can greatly exceed the ROI from the exchange-traded-fund.

Investing in Your Own Business vs. Investing in Someone Else's Business

If you own a business (self-employed or entrepreneur), then you already have an investment asset that can yield an extremely high ROI. In my personal opinion, it's better to invest the majority of your assets back into your own business, provided you know how to grow sales and revenue.

Investing in someone else's business (which is what you're doing when you buy publicly traded stocks or bonds) is far riskier, in my personal opinion. As a small business owner, you understand your business intimately. Trying to familiarize yourself with someone else's business—especially when the owners/CEO's have an incentive to "fudge the numbers" to satisfy Wall Street—is more difficult and carries increased risk.

The Single Best Investment

I believe the single best investment is investing in yourself. Developing knowledge about investing, finance, small business, and sales & marketing is one of the smartest investments you can make. Your knowledge and skills are very big assets. And yes, they will pay dividends over time, if you put them into action.

If you know nothing about investing, I recommend visiting your local bookstore and reading books in the Personal Finance & Investing section. Select a finance book that interests you, sit down and start reading. Keep reading books until you've gained a solid understanding of the types of investments available, and basic money management principles. I also suggest reading personal finance and investing websites.

One caveat: Realize that most information in books is "conventional," meaning it's what everyone knows (i.e. mainstream). To get better-than-average returns, you must invest unconventionally.

You must seek out knowledge that…

1.) other people don't have, or
2.) seek knowledge that other people have but don't apply (due to lack of self-discipline, greed, fear, time constraints, etc.). You must become good at application.