Before You Invest Money – 3 Questions You Should Ask Yourself

Before you invest money in any undertaking with the expectation of a return on your investment, you need to carefully evaluate your decision.

One evaluation method I learnt from my mentor and have found very useful in analyzing whether an investment is worth it or not is based on three simple questions.

In this article I am going to share with you these 3 questions and how you can put them to use in your own analysis before you invest money.

Question #1 – How much money are you planning to invest?

This question lets you think about how much you stand to lose if things do not go as planned.

It allows you to assess the level of risk you are about to take, thereby preventing you from staking everything you own, should you lose it all in one fell swoop.

In addition, you also get to understand that you may sometimes be limited in your resources as an individual, in which case you may need to partner with others to get the most out of that investment.

Question #2 – How much money do you expect in return?

This helps you put a price on the risk you are about to take.

The price is normally the interest or dividends you intend to receive on a regular basis or at one go, without impairing your principal amount you invested.

When you understand the relative risk of the investment given the return, you can very easily compare the various investments that are competing for your money and make an informed decision.

Ideally, you would go with the investment that offers the highest return for the level of risk you are ready to accept.

Question #3 – How soon do you expect to get your money back?

This is the most important of the three questions in that it presupposes that you are comfortable with the first two.

Incidentally, most of your ideas will be eliminated at this stage.

This question prompts you to calculate your payback period.

This is the period of time after which you can safely walk away from your investment, having recouped all the money you originally invested.

How soon you get your money back largely depends on how certain you are about the rate at which your investment will grow. Do not invest money if the payback period is unclear to you.

For example, let us say you invest $10,000 in a business venture. In the first year, you stand to lose all your money.

If at the end of the first year you can draw $5,000 without adversely affecting the operations of the business, you now have only $5,000 of your original investment at stake.

If at the end of the second year you can draw another $5,000 without adversely affecting the operations of the business, you have recouped your original investment.

In this case, the payback period is 2 years. Note that although you have your money back, your business investment can still generate money for you.

If you sold the business at this point, whatever money you get out of it will be in addition to your original investment of $10,000.

When you have to choose between two investments based on payback period alone, the one with a shorter payback period should take priority.

Not all investments are created equal. To make sure you get the best return on your money, use this evaluation method to research and quickly eliminate those investment ideas that are guaranteed to waste both your time and money.