I have seen many market swings and a wide variety of economic conditions in my lifetime. We all have. I’m sure we all remember the dot-com bubble and the recent housing crisis. These two market crashes caused a lot of people to lose a lot of money. There have been many other rough years in the market throughout history, too. It’s tough to recover from market declines, both financially and mentally. It’s devastating to lose money that you worked so hard for. It can take years just to get back to the same amount you had before.
The market is extremely volatile and wildly unpredictable. There are so many external factors that can impact the performance of your investments. Fortunately, there are ways to increase your odds of success. Let me explain the strategy that I use to make money, regardless of what the market is doing.
Margin of Safety
In my opinion, this is the most important thing you should consider when evaluating an investment. Margin of safety is the concept of buying an investment at a price that is lower than its intrinsic value. Intrinsic value is the value of the investment based on fundamental analysis. This is a concept that was pioneered by Benjamin Graham, and later made famous by one of his students, Warren Buffett.
Let me give an example to better explain this concept. Let’s say you find a stock that has a market value of $100 per share. After thorough analysis of the stock’s financial statements, market size, competition, and other factors, you determine that the stock is actually worth $120 per share. The $120 per share would be the stock’s intrinsic value. Since the stock is currently listed at $100 per share, you would have a margin of safety of $20 per share if you were to buy this stock at its current price.
This concept also applies to real estate. It's important to buy the property at a discount to the market value when investing in a property. I've discussed real estate vs. stocks in this article.
Purchasing an investment with a high margin of safety significantly improves your chances of earning positive returns. It also gives you room for error in case you miscalculated the value of the investment.
Positive Cash Flow
As the owner of a real estate crowdfunding company, my investment focus is on real estate (you can read more about why I think real estate is the best investment by clicking here). Other than margin of safety, the other factor that I consider necessary in an investment is positive cash flow. In real estate, positive cash flow means that the income generated from the property is enough to cover ALL expenses. The income needs to cover the mortgage, taxes, insurance, repairs, vacancies, management fees, capital expenditures. Everything.
When your investment is generating positive cash flow, you don’t have to worry about your investment dropping in value. As long as you continue to hold on to the investment, it will continue to generate a profit.
Other factors can impact your cash flow and cause your cash flow to decrease, which is why it’s extremely important to have a margin of safety. The bigger this is, the better. Combining these two factors gives you a much higher probability of success.
How Do I Find These Investments?
Now you might be thinking that it’s impossible to find an investment that covers all of these expenses. It isn’t. It isn’t easy to find, but it isn’t impossible. Finding the right investment can require some patience. You might have to analyze 100 other investments before you find the right one. The key is to stick to your strategy. It’s also important to focus on improving your deal flow, which I’ll cover in a later post.
Every investment has its risks, and no investment is guaranteed. There are so many factors that can influence your investment and its performance. But, if you focus on investments with the characteristics mentioned above, you can make money in any market.