I believe that before you invest your hard earned money, there are three important items to confirm or deny.  These items are basic, but powerful, and you already know them.  But do you always do your due diligence and follow them through to completion?

Item #1: Know Who You’re Dealing With

The first step is getting to know who you are dealing with.  Nothing will make an investment go bad faster than a fund manager that doesn’t have high integrity or doesn’t understand their product within the market.

Due Dilligence

Do your homework, at least on these 3 things.

Predictably, if you are dealing with someone that doesn’t tell the truth or doesn’t do the right thing, things will only end badly.  Trust your gut.  It is probably right.

At the least, inaccurate information or lack of experience with the product or market is asking for trouble.  At the most, it’s a recipe for complete disaster.  The problem with an inexperienced or ill-informed fund manager is, “They don’t know what they don’t know.”

Everyone has to start out somewhere in this process.  No one is experienced on day one.  But there are ways to overcome some of the initial deficiencies.  Before starting our notes fund, Assuravest, we spent a year and a half researching the industry.  Even that wasn’t really enough.  It wasn’t until we found our servicing and workout company that we were able to get comfortable.  We were able to gather enough history from their decade of experience to build our portfolio model.  We knew then that we had solid numbers from the past that would translate reasonably into the future.

Item #2: Ask About the Downsides

Item number two is finding out the downsides of the investment.  Everyone wants to tell you the good stuff and nobody wants to share the bad.  But you didn’t get to where you are in life without some knocks and bruises along the way.  Realistically, we all know there are downsides to every investment.  Find out what those are and compare them to the rewards you’ll be receiving.  The rewards should always outweigh the risks.  Always.  If not… move on.

Ask the question, “What can go wrong and what will that mean for my investment?” The fund manager should answer in two ways: (1) an honest explanation of what the downside is and (2) clarification of what type of market forces can make that happen.

What you don’t want to hear is a false answer; a fund manager who says the downside is actually the upside.  It reminds me of conducting job interviews.  When you ask a candidate to tell you about their weaknesses and they reply, “Oh, people tell me I work too much and I should take more time off.”  That is not a weakness.  That is BS!

There are always real downsides to an investment, even if they are unlikely to happen.  As we all know, things do happen.  Unfortunately those ‘long shot’ downsides can become a reality.  Know them and understand them.

You will also want to know the severity of how the downside could play out and how that will affect your investment.  The answer should be as definitive as possible.  An example might sound like this: “The breakeven point for your investment is X, if the downturn is more severe you could sustain a loss of Y, and if it lasts beyond 3 years you probably will be at Z.”  No one has a crystal ball, but this demonstrates that the fund manager has modeled out multiple scenarios and understands some key metrics of his product or portfolio.  He knows how it is affected by outside forces and what to be keenly aware of in order to avoid that worst-case scenario.

One of our key metrics for our business Advanced Commission is the default rate.  Small, one percent changes with our default rate can translate into hundreds of thousands of dollars on our bottom line.  Because we recognize that, we have built specific systems and measurements so that we know that daily metric.

Item #3: Require Transparency and Accessibility 

The third item is to make sure you have complete accessibility and transparency within the investment.  I know most people don’t want to study profit and loss statements, balance sheets, property directories, etc.  But make sure they, along with other important materials, are accessible to you.

These are items that should be provided to you by an honest, trustworthy fund manager. If they are not, get nervous. Trust your gut and move on.

Even if you don’t have the desire or skillset to review the information provided, just having this information available means there are others that will examine it in detail. At the least, this may give you some assurance that the fund manager is not hiding anything.

If you invest in alternative investments, this is actually one of the key benefits. You can be in control. Make sure that the information is accessible and the investment is transparent for you.  Don’t accept anything less.