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4 Signs of a Bad Investment

Picking the right investments can be daunting, especially if you're new to investing. No matter what you choose, there will be some risk, but some are riskier than others. Do your research and watch for red flags. Here are four of the most common signs that should give you pause.

1. Your financial adviser gets a big commission if you buy it

Surprising as it may seem, financial advisers are not legally required to act in your best interests. Most of the time they will, but if they work on commission, it's possible that their interests could conflict with yours. They may recommend investment products that don't suit you simply because they will make more money if you buy them. This could hurt your savings over the long term.

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It's always best to work with a fee-only financial adviser whenever possible. These advisers do not receive commissions, so you can feel more confident that they're making their recommendations with your best interests in mind.

You should also check out their credentials. Try to choose an adviser who is a member of the National Association of Personal Financial Advisors or a similar organization, which requires members to act in the best interests of their clients. If you are working with a fee-based adviser who receives commissions, ask if the adviser gets a commission for any recommendations. If the answer is yes, do some research on your own to determine if the product is actually right for you.

2. Everyone is buying it

When you hear about a popular investment that's shooting up in value, you may be tempted to hop on the bandwagon. But this isn't a good way to pick where you put your money. "Hot" stocks may rise rapidly, but they can fall just as rapidly. And you might invest when the price is high, and it later falls.

Everyone wishes they could get rich quick off a smart investment, but when you're talking about your life savings, caution is paramount. It's possible that the latest craze could be a smart move for you, but it's equally possible that it's a bad move. You won't know until you investigate for yourself to decide if it's a good long-term choice. Speak to a fee-only financial adviser if you're unsure how to choose wisely on your own.

3. It sounds too good to be true

If someone ever pitches you a no-risk, guaranteed-rewards opportunity, run very fast in the opposite direction. All investments carry risk, and when people try to pretend that theirs do not, they may be trying to sell you on a scam. Other common signs of investment fraud include high-pressure sales tactics, claims of special insider information (which is illegal), and salespeople who cannot explain the details of the investment in plain English.

If you're skeptical of an idea's legitimacy, do research on the internet. If it's publicly traded, then you can look up the company in the EDGAR database. You can also contact your state securities regulator to see if the person pitching the idea is licensed to offer investment products in your state. And always ask questions of the salesperson if there is anything you do not understand.

4. It doesn't match your risk tolerance

An investment product can be a good fit for someone else and a bad choice for you. It all comes down to your risk tolerance. This generally declines as you get older, because if your investments drop in value, you may not be able to wait for them to recover before you need to begin drawing upon them. It doesn't make sense to invest heavily in high-risk stocks when you plan to start spending your retirement savings in a few years. But if you're young, you may be able to afford to take a few more risks.

No matter what your risk tolerance, always remain well diversified. You may want a more stock-heavy portfolio when you're younger, but as you age, you should transition more of your money to safer areas, like bonds. Alternatively, you could invest in a target-date fund that is designed to get more conservative as it nears its target. You should also invest your money in several different industries so if one suffers a hit, it doesn't devastate your entire investment portfolio.

Investing can be a great way to grow your savings, but it's always a bit of a gamble. You can reduce the risk a little by doing your research and heeding the four red flags mentioned above. If you're unsure where to put your money, consider a fee-only financial adviser who will be able to provide specific recommendations for your situation.

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