“It’s Too Good to Be True”

If it’s too good be true, it usually is.

– Warren Buffett

Last month, there was a report of a “$60 million ponzi scheme” in Singapore which left a good number of people duped. According to the report, the alleged perpetrator had promised capital-protected returns of 10% to 48% in a matter of months.

Unfortunately, the promised returns were illusory.

Looking at the details, it occurred to me that the simple act of setting the right expectations may have helped the common investor to avoid such alluring-but-false promises. For me, the returns offered above struck me as “too good to be true.”

But that in turn begs the question: What would make for a reasonable expectation for investment returns?

Setting the right investing expectations

The investing track record of Warren Buffett could provide the upper end benchmark.

In his 50 years as the Chairman and Chief Executive Officer of the conglomerate Berkshire Hathaway Inc., Buffett has helped grow the company’s book value per share at an annual rate of 19.4%.

When looking at Buffett’s track record, we have to bear in mind that he is widely acknowledged to be one of the world’s best investors (if not the best) – as such, his standards may be tough to achieve for the vast majority of people.

In a recent seminar, speaker Eric Kong of boutique fund management firm Aggregate Asset Management also stressed the importance of setting the right expectations. He cast Buffett as the “Optimus Prime” (a superhero robot from the Transformers series) of the investing world. In other words, he felt that Buffett’s investing exploits would be a hard act to follow.

That’s a good way to look at it.

With this in mind, we may want to instead use the market-index-mimicking SDPR STI ETF (SGX: ES3) as a guide and set our expectations closer to the 8% annual return that it has delivered since its inception 13 years ago on April 2002. An outperformance of a few percentage points a year over the SPDR STI ETF may thus constitute a good investing performance.

Now, at first glance, a couple of points per year of extra return may not look like much. But stretch the time horizon out, and the power of compounding can make a world of difference.

An 8% annual return can quadruple your initial capital outlay in about 18 years. Bump it up to a 12% annual return, and your returns would be eight times the original sum over the same number of years (18 years).

A Fool’s take

So, keep an open mind to different investing approaches but take to heart the right expectations to set for your future returns. No investment returns come without risk, and it would be important to understand the risks before you commit your hard-earned cash to it.

And, as Buffett notes, if an investment scheme sounds too good to be true, you may be better off walking (or running!) away from it.

That could be the difference between protecting your nest egg and losing it.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Chin Hui Leong owns shares in Berkshire Hathaway, Inc..