I’m frequently asked what steps should be taken to develop a solid investment plan. Keep in mind that ‘knowledge’ empowers and that certain basic principles need to be adhered to.
The road to success
Follow these nine steps to ensure your investment plan is in place:
1. Manage or get rid of debt. So often we look at all the different investments without realising that the first and best solution is to pay off debt. There are different types of debt; some healthy and some not so healthy. A healthy debt is a bond as long as you can afford to pay the monthly instalment. You also need to factor in possible interest rate increases.
Unhealthy debt relates to overdraft and credit card debt which always points to living beyond your means.
2. Take control of your finances. There is no point in spending without having a full budget. Compare your take home pay to your annual budget. I say ‘annual’ because we often forget about those extra yearly expenses such as holidays, birthdays, repairs and maintenance.
3. Recognise the difference between investing and saving. Investing has a long-term presumption attached. Investment plans should be for at least five to 20 years and, in some cases, even until retirement. To me the word ‘saving’ implies the need to put money away for the long term and not money to be used in the next few years for a known expense such as education, new car or alterations to your home.
4. There is a big difference between risk and reward. We all like to hear about the great returns at the end of the rainbow and try to ignore the inherent risks. It is imperative that, when making an investment, you understand what both the upsides and downsides are. I’m not for one moment saying that risk should not be taken but you need to understand it — and, armed with this knowledge, you won’t deviate from your financial strategy, even when markets are down.
5. Rebalance your portfolio to maintain appropriate asset allocation. In thinking about the years when returns of 20% to 30% were achieved — and I’m sure no-one ever projected them — markets are sometimes euphoric, and returns can be greater than expected. At this stage, portfolios may need to be rebalanced to ensure that your asset allocation is appropriate.
6. Don’t panic when markets fall. For every seller there is a buyer and you need to ask yourself – who is buying when you are panicking? You are not alone in the panic stakes and may sell at any price. Bear in mind that this is when the long-term vultures take advantage and hone in.
7. Set targets. Once you reach these, re-assess – realising the additional risks. We always set ourselves high goals and, if they are reached earlier than expected, there will be explanations. You need to clearly comprehend these and you may need to make adjustments to your plan.
8. Know what you are buying into. If you don’t understand what you are buying, that does not necessarily mean you shouldn’t buy it. If it fits into your plans, ensure you spend more time becoming familiar with this type of investment. Stick to strong brands and remember nothing is so urgent that it requires an instant decision. Before making new investments, wait until such time as you understand where they fit into your overall financial puzzle.
9. Appreciate the difference between absolute and relative returns. Investment in money markets are absolute returns. When it comes to market comparisons between one company and another, these are relative returns even if you are comparing increases or decreases in the value of your portfolio.
As investment choices are so varied and vast, the average investor is often left bewildered. It’s also easy to lose sight of what you’ve set out to achieve. However, if you bear the above principles in mind, they will stand you in good stead for the future. My advice is always to take a long-term view, don’t panic and sell when markets fall. On the contrary, you should be buying when everyone is selling.