Many successful investors follow one extremely important rule of thumb: Never invest in something you don’t understand.
Selecting the right companies to invest is very difficult and the decision shouldn’t be taken lightly. When you invest in the stock market, you will be tempted often to buy companies or products that you don’t truly understand.
Consequently, if you can’t understand the investment and understand how it will help you save for the future, build wealth over the long term or achieve your financial goals, do not buy the asset. You need to resist temptation, and focus on the only question that counts:
“Do I understand the business of this company well enough so that I am reasonably confident that it is going to be a good investment?”.
Warren Buffett famously said he has three boxes for investment ideas: in, out and too hard. If a company’s business or product is too difficult to understand, it’s better to just file it in the “too hard” category and move on to another opportunity.
Investors should always remember that a share of stock represents partial ownership of a company. “Just as you would never purchase a private business from someone else without at least looking at its sales, profits, debt and trends of all three of those things at a bare minimum, you need to do the same thing before purchasing stock in a company,” Cornerstone Wealth chief investment officer Chris Zaccarelli says. “If you are doing anything else, you are just hoping what you bought will go higher – and hope is never a good strategy.”
Be sure to always read an investment asset’s prospectus or disclosure statement carefully. And, if you are still confused, you should think twice about investing.
Don’t put your more money in a business you don't understand. Never put your money in something because someone said to. Never invest in something that you don't fully know how it works. That includes stocks, bonds, annuities, real estate etc. Be smart with your money!#investment pic.twitter.com/dpxGAv4ERu
— Lifted Finance Consulting Ltd (@FinanceLifted) November 16, 2019
The bottom line for investors is simple: If you don’t completely understand how an investment works, or creates revenue, earnings and cash flow, then don’t buy it.
References:
- http://www.mymoneyworks.de/back-to-basics/dont-buy-what-you-dont-understand/
- https://money.usnews.com/investing/articles/2017-05-11/never-invest-in-something-you-dont-understand