Stocks? Bonds? Mutual Funds? Find the plan that fits your family.
It is a well-promoted notion that financial investments must be riddled with complicated terms in order to be profitable. In most cases, the opposite is true. Investing can be done by any family to help them meet their goals.
Making a Plan
The most important concept of investing is that you need to have a plan. You cannot hit a target that you have not identified. Sit down with your partner and discuss your goals and how you would like to achieve them.
Your investment plan will be just as individual as you are — it should be personalized to match your goals, risk tolerance and financial situation. For short-term goals — less than five years away — put your money in more conservative investments. You can uses the more volatile investments with higher growth potential (such as a stock-owning mutual fund) for long-term goals. This gives you plenty of time to ride through market swings. As you approach your goal, you can then decide when it would be best to liquidate your investment into more conservative financial vehicles. Your plan should come up with the following: a list of the goals that you want to accomplish; the time frame they need to be accomplished in; and a plan detailing how to achieve your goals.
At this point, you should also assess your investment personality. Are you thrilled when riding the ups and downs of the stock market? Do you ask for “hot tips” on stocks? If you have emotional traits that influence your choice of investments, try to counteract those and act as rationally as possible. Set reasonable expectations for each investment, including a time frame to accomplish your objectives. It is easy to panic and sell when the market drops 300 points in a day. Having a plan gives you a guideline to make your decisions rationally and not emotionally.
Risk and Reward
Determine your comfort level when balancing between risk and safety. If you will constantly worry that you might lose your money, then stay away from investments that put your principal at high risk. The trade-off for this will be a lower reward, or return, on your money, but if it helps you sleep better at night, you’re probably better off. Remember too, that to do nothing also presents risk — the risk of having inflation strip the value of your money away as well as losing opportunities for greater wealth. You should never put money at risk that you cannot afford to lose. Build your base with conservative investments and then as you progress, work into more aggressive investments.
Selecting an Investment
There are many good investments for you to choose from — never buy into a salesperson’s pitch that only he has the “right” investment for you, to evaluate for yourself. Go to the library and check out books on investing. Interview a variety of financial service firms before selecting a firm to handle your investments. This takes time and effort, but it is well worth it. Never buy a financial product unless you are comfortable that you understand it completely. With that in mind, here are some generic explanations of common investments:
An investor loans money to an entity such as a government or corporation and receives this contract, the bond, which includes the terms for repayment of principal and interest. There are a wide variety of bonds with various features — everything from conservative bonds issued by the U.S. government to very risky ones issued by speculative companies. Your library should have rating information on most bonds.
Shares of ownership, or equity, in a corporation. Some pay dividends, others do not. Stocks can range dramatically in their level of risk. The value is dependent on many factors, such as the corporation’s profitability and growth potential. Investigate thoroughly before investing.
A pool of money is collected from individuals, which is used to establish a portfolio of holdings for the group. Mutual funds come in all shapes and sizes; research them carefully. Find out what securities they invest in to evaluate the risk involved; how much their administrative shares are and a record of how well the fund has performed in both “up” and “down” markets.
Remember, buying futures, derivatives “on margin” and other complicated investments should be left alone unless you completely understand the risks you are taking. They may sound flashy and exciting, but they can also leave many wounded investors along the way.
Another important factor in investing is that you do it regularly. Professionals use a term called “dollar cost averaging.” Dollar cost averaging simply means that you put a fixed amount of money away into an investment on a routine basis. When the investment is priced high, you are buying less of it. When the investment is priced low, you are buying more of it. Studies have shown that this lowers the overall cost of the investment when compared to more random strategies.
As the saying goes, don’t put all your eggs in one basket. Many experts agree that the asset allocation and the proportion and type of each investment in your portfolio is more critical to your financial success than those particular investments you hold. Mutual funds are an excellent way for individual investors to diversify their portfolio and thus reduce their overall risk.
Monitoring Your Investments
You need to monitor your investments on a regular basis. Do not concern yourself with the ups and downs as much as the long term picture. Compare your investment returns with your expectations. Investigate any discrepancies in performance and make appropriate decisions based on your plan.