I have a friend that is an investment advisor and we were chatting about interest rates and investing. He laid out a scenario of three short term investment strategies. He said that 67% of clients pick the wrong one. I told him that was crazy, no way. How is it possible and then he showed me. I was blown away. Without thinking about it, I chose the wrong one as well. Can you guess which investment is the best?

Hypothetically, you inherit $100,000 and you need a short term vehicle to invest your money for 2 years. You have three options to choose from. Without a lot of thought, which do you pick?

 

• First option, is a 90% gain in year one with a 50% loss in year two.  

 

 

• Second option is a 40% gain in year one and a 40% loss in year two.

 

 

• Third option is a 4% gain in year one and a 4% gain in year two.

 

 

Two out of three people seem to like the big gains of the first option. However, let’s put a pencil to it and calculate the actual returns. First option, in the first year of option one you would have $190,000. But in year two with the 50% loss you would have $95,000 or a two year net loss of $5,000.

If you choose the second option in year one you would have $140,000. But with the second year loss of 40% you would have $84,000 or a two year net loss of $16,000.

If you chose the third option of a meager 4% gain in year one you would have $104,000. But with the second year gain of 4% you would have $108,160 or a two year net gain on your money of $8,160. So why would two out of three people choose option one? It is the allure of making 90% on your investment without weighing the risk of a 40% loss. Our brains see 90% is greater than 40% so I am still making a lot more money.

This is a great lesson in why we should never invest with emotions, only math. Remember, slow and steady wins the race. There is very rarely a get rich fast scheme that works. Just invest your money safely and systematically to grow your nest egg.

“The most powerful force in the universe is compounding interest”—Albert Einstein

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Tim Wilhoit is owner/principal of Your Friend 4 Life Insurance Agency in Nashville, TN. He is a family man, father of 3, grandfather of 2, entrepreneur, insurance agent, life insurance broker, employee benefit specialist, salesman, sales trainer, recruiter, public speaker, blogger, author and team leader with over 30 years of experience in sales and marketing in the insurance and beverage industries.