Basic Investment Principles
So apparently some people still have excess cash in Tanzanian shillings in 2020! Jokes aside, I have been faced several times with questions on what’s the best option to invest excess cash balances in our local and regional (where permissible) financial markets.
This brief article will therefore attempt to answer this very question in two parts. Firstly, I discuss a framework of key principles that should serve as guide in deciding how to invest excess cash balances. Then in a separate, second part, I shall evaluate (and rank) the available investment product options based on this framework.
Principle 1: Wahenga walikosea kidogo “Akiba inaoza, iwekeze!”
Yes it’s very good to save, but the old adage that savings don’t rot is not completely true. For example if you have excess cash buried somewhere for a couple of years whilst the inflation rate is 5% per annum your savings are rotting as the purchasing power of your cash is being eroded by inflation. Some have reduced savings to the job of piling cash somewhere for a future use. Therefore don’t just stop at saving, but invest. Saving is good, but it’s playing it safe and defensive. Go on the offensive look to invest your savings at rate at least higher than the inflation rate.
Principle 2: Time value of money.
This is one of the central themes of generating interest returns. And it’s quite simple; the value of 1000 shillings today is more than the value of 1000 shillings at a future date because of the ability of earning returns during the time between “Now” and the “Future”. That is 1000 now can be turned into 1000 + Interest in the future. Therefore like 1) invest as much of your savings as possible. Each day that passes with cash being idle is a loss!
Principle 3: Risk-Reward trade-off.
This to me is the most neglected principle locally for reasons I hope to address later. The general rule is the higher the risk the higher the reward. Let’s take for example investing in government securities, top rated bank, mid-tier banks, small local banks, and lending informally to a friend as 5 different points on an a progressively escalating risk ladder. The Microfinance loan to your friend should give you the highest return (as its high risk) and the investment in government securities the lowest (as its lower risk). If you invest your cash up the risk ladder you should demand more return. Interestingly the hidden gem here is that so often in the history of our market it’s the government securities (lowest risk) that gives high competitive returns. As an investors with excess cash you cannot ignore this! I have found that too few people are actively looking at investments in government securities where they can get higher returns at lower risk!
Principle 4: Diversify your portfolio.
This too is a staple theme of investing but one that is also often ignored locally. How many times have you heard the story of those who had struck it rich on some project and ended up buying land with all their cash; not just on piece of land but several pieces becoming over exposed to real estate sector risk. Putting all eggs in one basket. The safer option is to always try and avoid one way bets and invest in different products with different risk profiles. Some land, some bank deposits, some government securities reads like a more balanced portfolio.
Principle 5: Beware of the times (Soma alama za nyakati):
Last but not least, and especially relevant to Tanzanian investors, certain times favor certain asset classes over others by providing better possibilities of higher returns, better chances of capital gain, and ability to liquidate investment back to cash without loss. We all know how for the longest time buying land has been such a sure bet. Buy it today, weeks later someone wants to take it off of you at double the price, were the stories. Is that the same scenario still prevailing now? What’s the best scenario now and for how long will it last? The key here would be to invest in the asset class that is the sweet spot and is favoured by the prevailing economic backdrop in terms of decent returns, capital gains and liquidity (ability to buy and sell without significant change in price) as land was for previous times. This is not to say though that land investments are bad now, in fact land assets are likely to be undervalued hence a good time for investors with a long term view to acquire them. One though shouldn’t expect favorable short term speculation capital gains.
Therefore as far as we excess cash is concerned, if you have it save it, if you save it don’t just save, invest it, if you invest it diversify, and as you diversify give priority to asset classes favored by the times.