You have worked hard and saved some money or come across a windfall that has added a few zeros to your bank balance and now you want to secure your future by investing.
How do you decide what business to invest in? Should you put your money in a Sacco or the capital markets, say in bonds?
This is one of the dilemmas many people find themselves in. While returns from some investments like real estate and fixed deposit accounts appear safe, they are not without risks.
“There is a level of risk. There is nothing risk-free,” says Maxwell Gichuhi, a financial advisor.
Mr Gichuhi explained that one has to consider investment capital returns, fixed income and cash preservation in deciding where to put their money.
But the premium question is: what do you want your money to do for you?
Do you want to preserve it for future use on some project, maybe for furthering your education or paying school fees for your child?
We explain how the three modes of investing work.
Cash or capital preservation
This is a low-risk, low-return investment.
Here, you are not looking to make a profit from your money but just a vehicle to keep it safe.
“It is not safe in my mattress because anyone can access it, including myself, and it is not safe in the office either. With cash preservation, I just want my money safe; I am not looking for an aggressive return,” explains Mr Gichuhi.
“An example of a cash preservation would be a Sacco or a savings account with about four to six per cent interest,” he says. Treasury bills also fall in this category.
You look at what is the average inflation. If, for example, it is 4.5 per cent, then you need a cash preservation vehicle that would give more than 4.5 per cent.
“That is the only way I can guarantee that the value of the money remains the same,” he says.
The principle is, the lower the risk, the less the time it takes to get your money back and the less the returns.
According to money.usnews.com, capital preservation prioritises preventing investment loss. It is ideal for retirees and those approaching their final working years.
In a 2020 article titled How to Invest for Capital Preservation on the website, Craig Kirsner, author of Retire Strong: Preserve and Protect Your Wealth and Leave a Legacy, cited stocks as a good source of growing your investments.
However, Kirsner warns, at times they offer dividends but not capital preservation.
Target funds, capital preservation funds, real estate investments and annuities are some of the listed few ways to invest for capital preservation. In real estate, one can invest in Real Estate Investment Trusts (REITs).
This is a medium-risk, medium-return type of investment. Here, you invest your money with the promise that the returns are better than what you would have gotten from cash preservation. For fixed income, the returns are eight, 15 or 20 per cent.
An example is a fixed deposit account or government bonds such as infrastructure bonds, which are long term. Here, the interest is higher than the inflation rate, while the risk is moderate, hence medium returns.
An article by Siam Commercial Bank (Thailand) describes fixed-income funds as mutual funds that focus on investing in debt securities, including government bonds and debentures.
“The fixed-income fund is considered an important tool for investors who want to rest or need a moderate risk and have an investment period of 1-2 years or more,” says the bank.
Chances of loss are low since an investor gets a fixed return like 6.5 per cent. The challenge is that one may not have the luxury of withdrawing their money in favour of a more lucrative one.
Capital income or capital growth investment
This is a high-risk, high return investment. This is the appreciation of the value of an investment of an asset.
Business, equity and equity funds fall in this category. Here, if you invest Sh100, you can end up getting Sh100 or Sh80 more.
Such an investment may involve buying land and putting up rental houses.
“When we talk about real estate, people do not have to think of ‘I need to build a flat’. You can just get a plot and do one unit at a time,” says Mr Gichuhi.
“But it still takes a long time and the risks are higher.”
If you are 50 years old or you have just retired, Mr Gichuhi advises you shouldn’t put 90 per cent of your money in this category of investment.
Only the young can afford to start a business today, lose it and start again.
“It is possible to start a business at that age, but I say with caution,” he advises.
Real estate is an investment vehicle that has a huge potential for capital growth. For example, just a decade ago, a 50x100 plot in Ngong, Kajiado County went for as low as Sh60,000-Sh80,000.
Today, the same fetches in the north of Sh300,000 and is expected to increase with the growth of the satellite towns.
Capital growth, says mortgagechoice.com, protects one’s wealth from inflation.
“Think of it this way. If you’d stored $500,000 (Sh57.2 million) in a savings account instead of buying a rental property, your money would earn interest, but the value of your capital (in this case $500,000) would remain unchanged. In fact, thanks to inflation, the purchasing power of your cash savings will decline over time,” says the website.