Why You Need to Diversify Your Personal Equity
Eight years ago, my friend Andrei nearly lost everything. He didn't follow what's probably the single most important investment strategy there is. It's not your typical stock or investment strategy. In fact, it doesn't have anything to do with the stock market. But it can save you from financial ruin.
While I was working at a bank in Moscow in 2007, Andrei was my junior analyst. He graduated from a university in Moscow and was making good money working in finance during the pre-crisis bubble.
Andrei had an apartment downtown, and savings in a local bank in Russian rubles. The ruble was strong, his stock picks were doing well as the stock market went through the roof. He had the swagger of a young man who had everything figured out.
Then the global financial crisis of 2008-2009 hit. Russia's commodities-reliant economy collapsed. The stock market dropped 80% and the economy shrank 9%, more than any other major economy.
Andrei lost his job, and the value of his savings was cut in half as the ruble collapsed. He couldn't take his money out of the bank anyway because the bank "froze." He couldn't keep up with his mortgage payments. His stock portfolio evaporated.
And it's hard to find a new job as a finance professional when the financial system is collapsing. Since Andrei had only a Russian passport and spoke little English, or any other language besides Russian, he couldn't look outside Russia for a job.
Andrei's problem was that his "personal equity" wasn't diversified -- it was entirely focused in Russia. So, when things took a turn for the worse in Russia, everything fell apart for Andrei.
What Is Personal Equity?
Diversification refers to owning different types of uncorrelated assets. You want assets in your portfolio that balance each other out. You'll want some equities, maybe some bonds and a little gold. Geographical diversification is also important.
Your equity is what's left after you add up your assets (like stocks and real estate and your savings account) and subtract what you owe (mortgage and car payments and alimony, for example).
But most people don't think about what I call "personal equity." It's more than just a dollar figure -- it's related to how you will build up equity as your life unfolds. Where and how you will make your living in the future? What field will you be working in? What other investments are contributing to your savings? By thinking about the vulnerability of your future, you get a better sense of the risks to you personal equity -- and how diversified you really are.
So, by not diversifying your personal equity, you might be putting your future finances at risk. My friend Andrei learned this lesson the hard way.
Money Is Only Part of the Equation
Most people live and work in the same country where they keep all their assets. And even if you have some real estate in another country, or other foreign investments, you're probably less diversified than you think. You should also factor in where you'll be earning money in the future.
It seems logical to have most of your personal equity in the country you're going to be living in for a long time. After all, what's wrong with buying Thai stocks, real estate, and baht if you plan on living and working in Thailand?
On the surface, there's nothing wrong with this. In fact, that's what most people do. But this carries risk -- because you're not properly diversified.
There might be sudden problems with the banking sector or the currency might collapse. The real estate sector might go bust. The government might decide to tax your assets to plug massive budget deficits. There are an endless number of things that could go wrong.
Fortunately for my friend Andrei, he still had the most important asset in his personal equity: time. He went back to school and studied English. He successfully reinvented himself and eventually got a job as a consultant in London. And he is now much more diversified.
Learn from those that made big mistakes in 2008: Don't think that just because you own stocks, bonds, and local currency, you're diversified.
Instead, make sure to think ahead and come up with strategies to diversify your personal equity. It will be worth it in the long run.
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Kim Iskyan is the founder of Truewealth Publishing, an independent investment research company based in Singapore. Click here to sign up to receive the Truewealth Asian Investment Daily in your inbox every day, for free.
This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.