Due diligence analyzes and mitigates any risk that’s associated with an investment decision. A thorough examination of the financial records of the investee will turn up any possible performance issues. Although the process is voluntary, it makes smart financial sense to perform due diligence before investing.

Before you make an investment decision, you need to answer the following five questions: 

  • What is the investment strategy and do you understand it?
  • How has the investment been done over multiple market cycles?
  • Who has custody of the assets?
  • Who generates the statements?
  • Who is the auditor?

What is the investment strategy and do you understand it?

An investment strategy is a plan designed to help investors achieve their financial and investment goals. Investment strategies depend on four major circumstances:

  • age
  • available capital
  • risk tolerance
  • goals

In other words, as you devise your own investment strategy, you will want to keep some key ideas in mind and ask yourself some specific questions. For example: Do you understand the risks involved with the particular stock or company? How much are you willing to invest? How much are you willing to lose? What are your goals for this investment?  Although you might not have the expertise to implement a certain strategy, you most likely have the intelligence to understand it. If it doesn’t make sense on some level, it fails this test.

How has the investment done over multiple market cycles?

Although a stock’s past performance doesn’t guarantee future price movements, it’s beneficial to note the short-term and long-term performance. While a stock’s history doesn’t guarantee its future performance, it can influence its ongoing movement. If the stock price has been volatile, then most of their shareholders are only in it for the short term, making it risky for certain investors.

Researching a stock’s performance greatly helps when deciding whether or not to invest. Any investor can conduct due diligence on any stock using public information that’s available from a variety of sources.  Most investors, like gamblers in a casino, can have a run of good fortune. The question you have to ask yourself is an they repeat this in different market cycles?

Who has custody of the assets?

A financial institution usually holds assets to prevent them from being stolen or lost in both electronic and physical forms. Investment advisors are required to arrange for an asset custodian for their clients. Since they’re responsible for the safety of assets worth more than hundreds of millions of dollars, these custodians are almost always large, reputable firms.

Knowing who keeps you in control of your money. If you’re not clear who will maintain custody of your assets, ask your financial advisor to provide you with the custodian’s contact information.

Who generates the statements?

Financial statements encompass numerous essential pieces of information about a business. This information includes revenue, expenses, profitability, and debt. Investors need this information to make educated decisions about their investments. The U.S. Securities and Exchange Commission (SEC) requires companies to report their financial statements on a quarterly and annual basis.

If you do not receive a statement directly from a qualified custodian or fund administrator, then you need to contact your adviser or custodian to find out why. You’re entitled to this information as a stockholder.  Although you probably trust your advisor or wouldn’t be with them in the first place, getting your statements and accounts verified by an independent 3rd party is critical when dealing with anyone but the largest most trusted firms.

Who is the auditor?

Are you performing the audit yourself? Did you hire someone? Do you trust that person? Do they have a vested interest in the targeted company or are they completely unbiased?

Hiring an objective third party who has the know-how and experience to perform an audit saves you the trouble of covering every single base. You need to be armed with as much detailed information as you can get before investing your hard-earned money. Thorough due diligence reduces your chances of making the wrong investment decision.  All of the funds at Alpha Wealth Funds are audited by a PCAOB member firm.