If it sounds too good to be true, it's probably a scam

I am absolutely over people losing their money.

Way back in the late 1970s and early 1980s I started writing and doing radio segments on investment. A lot of this was about the positive aspects of saving and investing: using savings to pay down high-interest personal debt, saving to buy a home, paying off your home loan, buying a well-located investment property or some good quality shares.

Over 40-plus years, these commonsense ideas have generally worked a treat. I say generally because none of us has a crystal ball and with investments there are inevitable disasters.

At a personal level, most of my property investments have worked out well. But along with a few of my university buddies, in about 1984, I bought a property for the grand sum of $21,000 in Tawonga, near Mt Beauty, Victoria.

We thought we'd build a ski lodge to enjoy as a group. We knocked down the house, made no further progress and after a decade of spending over $1000 a year on rates and blackberry slashing, we sold it for $10,500, achieving the near impossible.

We paid cash for the place, had no debt and after allowing for our running costs lost in excess of the $21,000 we had bought it for!

With shares I have always encouraged people not to take stock-specific risk, meaning owning just one or a few shares. This is a mug's game.

Diversifying risk with shares by owning many companies across many sectors, such as banking, retail, health and mining, is a no-brainer.

And, sure, quite a number of companies I have owned over the years have failed or been a dud.

But the average rate of return on a decent share portfolio, including the inevitable duds and failures, has been around 10%pa.

Different types of loss

This is not the type of "losing" I am talking about. I can laugh about my property duds, because most of the others have been good and some fantastic. It is the same with shares. Telstra has disappointed, AMP has done poorly. But CSL, CBA, Sonic, Woolworths and many others have been brilliant.

What really distresses me is people losing large parts of their capital forever.

This is even more painful when investors seek to make "safe" decisions and get ripped off. I've been around a long time, and like an elephant I don't forget. It was not my first attack on a crap investment, but in the late 1980s I had a reasonably strong profile in the media, and an investment that really had me worried was Estate Mortgage.

What was particularly concerning was its statement that it was "just like a bank or building society, only better". On the face of it, it offered bank-like security, first-mortgage investments, strong valuations and so on. Only it was offering much better rates to investors, who were mainly retirees.

My question was pretty obvious. To pay more than the banks it must be charging lenders a much higher rate of interest than the banks. So who was paying Estate Mortgage more interest on a loan than they would pay their bank?

The answer, of course, was those the banks would not lend to.

Inevitably, Estate Mortgage collapsed, taking with it some $500 million of low-risk, security-conscious investors' money. This sad tale has been repeated over and over again.

Around the same time Pyramid Building Society collapsed. Then we moved to "solicitors' mortgages". A very small number of solicitors on the Gold Coast and in Western Australia were selling "safe mortgages" but with very high returns. Naturally, there was a similar result: over $1 billion lost.

I'll never forget taking the Money TV show to the Gold Coast. More than 1000 people, mainly retirees, packed a local club. They had lost most or all of their funds

These tales of woe are endless, but there are recurring themes that can help investors. Top of the list is agriculturally based tax schemes. Don't get me wrong. These are rarely run by hard-working farmers.

The creators of many exotic, usually tax-based schemes are city "financiers". Many a valuable and perfectly innocent tree, animal or fruit has led investors to ruin in the hands of sharp financial types. Pine trees, grapes, fish - you name it, I've seen it.

My favourite was "Port-folio", a lovely sounding idea being promoted in Australia in the 1990s by an English chap. The idea was you bought a barrel of port in a Portuguese winery. This in time to come you could sell for a big profit, or drink it. Both sounded great. The only problem was that your barrel of port did not exist.

But the "high net worth" type schemes worry me less than the really dangerous ones. High-net-worth investors rarely tie up too much money in a tax-based agricultural scheme. A high tax bill means high income, so this sort of investor can usually lick their wounds and recover.

Dangerous promises

The real danger is with the "secure, low-risk" investment promises. We have seen plenty of these lately. A recent high-profile case is Mayfair Platinum, as it was first called. Its advertisements were really lovely. The full-page promotions showed that we could invest like the wealthy. It was not offering super-high returns, but better than we could get from the banks, with what seemed like good security.

As Adam Schwab said in Crikey before the collapse of Mayfair, it "raises more red flags than a North Korean military parade". Very eloquent - wish I had thought of that. But this is not funny.

Once again hundreds of millions of investors' money went down the drain. Even the most basic read of Mayfair's material spoke about the security being provided by ownership of Dunk Island and a mysterious Indian accounting and software firm.

Call me an idiot, but over many centuries whoever made any money out of a tropical island, let alone one ravaged by cyclones?

What I could do here is to rattle off a list covering many pages of failed investments offering "security with high returns", but I am not going to, because that will not help anyone. What every investor needs is a simple risk framework. I am sure you, as a reader of this magazine, will have one, but let's expand on this theme.

The risk-free rate of return is, for most of us, a term deposit with our bank. At the moment, 90 days is probably paying around 0.1%pa. Obviously, we can earn more than that, but not without more risk.

Longer-term rates are starting to move up, so you could get around 1% for a year, but you are giving up your liquidity for a year. Then we could look at things like government bonds and corporate bonds. Your potential return goes up as you buy riskier bonds, and returns get higher again if you buy junk bonds.

Then there's property, either one you buy yourself or a listed or unlisted investment. There are income funds offering different rates depending on how risky the assets they hold are.

Shares can pay nice dividends, but will, of course, fall in value in bad times. Here we have a nice, simple trade-off. You can potentially earn higher returns with more risk, in particular over the longer term. But what you won't do is find "high-return, low-risk" investments.

The most dangerous part of the economic cycle for low-risk investors is right now. Low interest rates make genuine "safe" investment like term deposits very unattractive. Lots of conservative money is looking for a new home paying better returns.

You can potentially access this by taking more risk. If you see anything promising higher returns for low risk, run for your life. Hence my favourite investment saying: "If it looks too good to be true, it will be."

As we age, we just can't afford permanent capital losses, in particular when we are led to believe we are taking little or no risk. What I ask you to do, and to encourage those around you to do, is to "look through" investments. I get it that we want and often need higher returns, because life is expensive.

But all too often people are losing their hard-earned savings to slick advertisements and smooth words. Just ignore all the spin.

At the end of the day you will get higher returns only by taking more risk. And that is fine. Good investments will go down in value occasionally, but over time a decent, diversified portfolio of investments does recover. Even better, your income, in the form of rent and dividends, generally keeps flowing to you.

I am not encouraging you to avoid risk. Getting off the couch and driving your car is risky, as is crossing the street. With our money, ironically taking no risk is risky. Cash at the bank will not preserve your buying power over the decades. So we need to take risk. With time and sensible diversification our investments will do just fine.

What we must not do is chase investments we do not really understand, in particular, those that promise us high returns with no more risk.

History here is quite clear. You will, sooner or later, lose your money.

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