If you were given the choice between having a secure future where you can accomplish goals and achieve dreams or being financially insecure, it’s unlikely you would make the latter choice. To help turn the first choice into your reality, it’s important to have a solid financial plan in place.
To do this, it may be beneficial to go through a process of discerning and prioritizing your goals. You might try to determine where you are right now financially and then set, implement and track goals—tweaking as needed, which can include reaching out for expert help.
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Saving and investing play key roles when financially planning for the future and how you’ll invest will likely depend upon many factors, such as generation. For some generations, it may be about planning for retirement, while others may want to focus on putting away cash for an uncertain future.
For younger generations, the focus is often on things like paying off student loans while also saving for a down payment on a house. Because current financial positions and goals vary for people, this post will offer tips to help you create a plan that’s every bit as unique as you.
Related: Learning to pay yourself first
Setting Goals: What and Why
How you plan for your future depends, in large part, on your goals. Ones that people often have include:
- paying down debt
- saving for retirement
- buying a home
- starting a family
- traveling
You’ll likely see some of your own goals on this list, and you may well have other goals that are not included. As you decide what’s most important to you, also consider the “why” of it all.
Paying down debt may be important to you because the less interest you pay on outstanding debts, the more money you can save and invest for other items on your list.
Saving for retirement may include a desire to travel to the country of your heritage, while buying a home may represent true stability—a place where can raise a family or run a home-based business.
As another example, here are 10 financial milestones that you may set for yourself if you’re in your 30s. They range from establishing a good credit score to paying off student loans and credit card debt, as well as include ways to budget for and maximize the part of your budget that’s set aside for fun.
When you know why you’re moving towards a certain goal, it can provide powerful motivation for you to stay the course, even if something unexpected happens, whether it’s the furnace on the fritz or an unanticipated surgery.
Understanding the Now
Although it may, at first, sound contradictory, one of the initial steps of planning for the future includes taking a deep dive into where you are right now. This includes things like:
- your assets (what you own)
- your debts (what you owe)
- your income (what you bring in)
- your expenses (what you pay out)
At a high level, savings can be determined by adding up what’s in checking and savings accounts, including emergency funds, vacation funds, and so forth. Add what you’ve put away into retirement accounts, a 529 account and so on.
Debt balances can be calculated by collecting recent statements from credit card companies, student loan services and so forth. Add the outstanding balances up.
As far as income, how much comes in monthly from wages/salaries, bonuses, interest and dividends? Rather than using gross income amounts, it might be more helpful to consider your take-home pay along with pre-tax contributions—perhaps for retirement or a flexible spending account.
Then, list your relatively fixed expenses, which could include your rent or mortgage payment, monthly utilities, property taxes (if applicable), insurance premiums, prescription costs, groceries, gas, and so forth. Also look at what you spend on clothing, hobbies, entertainment and dining out. Are there any other expenses you need to consider?
This process can be handled manually, or you can leverage technology to aggregate your accounts and track your spending. Personal financial management tools can streamline your overall planning process by automatically updating information as you make progress. These tools can also provide insights into your spending patterns as well as help you identify recurring charges you may have forgotten about. Choosing to track your progress manually or with help is a matter of preference.
It can be hard to balance living in the now while also saving for the future, but there are ways to plan so you can have your cake and eat it too—saving for the future while also living life to the fullest.
Creating a Financial Plan
At its simplest, when thinking about how to plan for the future, it might be helpful to connect the dots between where you are today and where you want to be to achieve the goals you’ve set. In other words, your mileage may vary, depending upon the distance you need to travel.
As just one example, let’s say you have a goal to pay down debt. If you examine your finances more closely, then perhaps you decide that it’s really a two-pronged issue. You need to:
- accelerate how quickly you’re paying back your student loan debt
- pay off your credit card debt to reach the point where you can pay off your outstanding balances monthly
It might be helpful to set a target date to accomplish each of these debt-reduction goals and then reverse engineer how much more you would need to pay each month to make that happen. You could also explore how much more quickly you could pay off credit card debt if you consolidated them into a personal loan with a lower interest rate or whether refinancing your student loans is a good choice for you.
In this example, we’re looking at one goal. But what can you do if you have multiple goals to accomplish? If that’s the case, then prioritizing your goals may make the most sense. After all, if you spread yourself too thin, you may not see progress quickly enough and this could result in a loss of motivation.
Here’s one more thing to consider as you create your plan. It may be tempting to focus on just debt reduction (and, in some cases, that could be the right strategy), but it can also help to cultivate a pay-yourself-first attitude. With this philosophy, the top priority is to put a predetermined amount of money into personal savings and investment accounts. When this is your main focus, it can help to ensure your discretionary spending doesn’t cut into your financial growth.
Implementing Your Plan
Once you’ve formulated a plan of attack, it’s time to put it into action. If, using our previous example, you want to pay off student loan debt, now might be the time to increase your payments by appropriate amounts to pay them off by your target date. A next possible step? Automate those payments to reduce the amount of time spent on managing this part of the plan.
If your goal is to save more money, the same concept can apply. Determine how much money should come out of your paycheck monthly and then automate that part of the plan.
If you’re ready to start a retirement account, you might consider a Traditional IRA or Roth IRA. For non-retirement accounts, you might consider a taxable account as step one—these can include bank accounts, money market accounts, and individual and joint investment accounts.
Monitoring Your Progress
As you automate payments, you’re using a set-it-and-forget-it strategy, freeing yourself up to work on other parts of your plan. That will likely include at least an annual review to see how it all is progressing.
Some people like to do that as part of ushering in the new year. Others may prefer spring, right around tax time, while others might like to review their plan in the fall when they’re making employee benefits decisions. As with most parts of your unique plan for your future, there are many ways to do it right, depending on the individual. If you discover that you need help with your plan or have questions, it can make sense to speak to a financial planner.
Investments: Planning for the Future
No two investors are alike. Having said that, there are patterns of investing. If you know which kind of investor you are, it can help to put your investments to work in a way that dovetails with your personality. In general, there are three investor types:
- active investor
- passive investor/low-maintenance investor
- hands-off investor/automatic investor
You might look at this list and feel as though you know where you fit in. Or you can take a quick investor quiz to gain insights. Once you know what kind of investor you are, you can determine what kind of investing works best for you.
First, let’s look at active investing.
Active Investing
If you want to be involved in each aspect of investing, embracing a hands-on approach, being a self-directed investor may be for you. through free trading with active investing. This is a hands-on way to put your money to work, as you buy and sell stocks.
Passive Investor/Low-Maintenance Investor
If you like the idea of investing but don’t want to be significantly involved in making investment decisions, then you may fall into this category. This could mean that you have a “buy-and-hold” philosophy where you buy securities and plan to hold on to them for a longer period of time, throughout fluctuations of the market.
Or it could mean that you’re open to more activity on your investment account, but you don’t want to spend much personal time studying the market and otherwise handling the details. If this sounds like you, then you may want to consider automated investing. Read on for more details.
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This article originally appeared on SoFi.com and was syndicated by MediaFeed.org.
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6 investment risk management strategies
Risk is everywhere, every day. Some people take steps to protect themselves and manage that risk. Others leave it up to luck.
The same holds true when it comes to building wealth for the future. Some investors focus strictly on returns and how fast they can grow their money. Others protect themselves against the inevitability of a correction or a bear market by using various risk management strategies.
That cautiousness doesn’t mean they’re paralyzed with fear, stuffing money under the mattress or sticking only to the safest investments they can find. The purpose of investment risk management is to ensure losses never exceed an investor’s acceptable boundaries.
It’s about understanding the level of risk a person is comfortable taking and building an investment portfolio with appropriate investments that also will work toward achieving that individual’s goals.
An investor’s risk tolerance is usually determined by three main factors:
Risk capacity: How much can the investor afford to lose without it affecting actual financial security? Risk capacity can vary based on age, personal financial goals and an investor’s timeline for reaching those goals.
Need: How much will these investments have to earn to get the investor where they want to be? An investor who is depending heavily on investments may be faced with a careful balancing act between taking too much risk and not taking enough.
Emotions: How will the investor react to bad news (With fear and panic? Or clarity and control?), and what effect will those emotions have on investing decisions? Unfortunately, this can be hard to predict until it happens.
Why is risk management important? Those who are able to preserve their capital during difficult periods will have a larger base to grow from when good times return.
With that in mind, here are some strategies investors sometimes use to manage the risk in their portfolio.
Related: Effective investing as a couple
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You’ve probably heard the expression “don’t put all your eggs in one basket.” Portfolio diversification — allocating money across many asset classes and sectors — could help with avoiding disaster in a downturn. If one stock tanks, others in different classes might not be so hard hit.
Investors might want to consider owning two or more mutual funds that represent different styles, such as large-cap, mid-cap, small-cap and international stocks, as well as keeping a timeline-appropriate percentage in bonds. Those nearing retirement might consider adding a fund with income-producing securities.
But investors should beware of overlap. Investors often think they’re diversified because they own a few different mutual funds, but if they take a closer look, they realize those funds are all invested in the same or similar stocks.
If those companies or sectors struggle, investors could lose a big chunk of their money. Investors could avoid overlap by simply looking at a fund’s prospectus online.
To further diversify, investors also may want to think beyond stocks and bonds. Exchange-traded funds, cryptocurrency, commodities and real estate investment trusts (REITs) are just a few of the possibilities.
Investors could also diversify the way they invest. Long gone are the days when everyone turned to a stockbroker or a financial advisor to grow their money.
An investor might have a 401(k) through work but also open a traditional IRA or Roth IRA through an online financial company.
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One of the easiest ways to help reduce the volatility in a portfolio is to keep some percentage allocated to cash and cash equivalents.
This may keep an investor from having to sell other assets in times of need (which could result in a loss if the market is down).
The appropriate amount of cash to hold may vary depending on an investor’s timeline and goals. If too much money is kept in cash for the long-haul, it might not earn enough to keep up with inflation.
There are other options, however, including:
Rebalancing
The goal of rebalancing is to lower the risk of severe loss by keeping a portfolio well-diversified. Over time, different assets have different returns or losses based on the movements of the market. Rebalancing helps get things back to the mix the investor wants based on personal risk tolerance.
Rebalancing can often feel counterintuitive because it can mean letting go of investments that have appreciated in value (the ones that have been fun to watch) and buying investments that are declining in value.
Forgetful investors may even be able to sign up for automatic rebalancing. Without rebalancing, a portfolio’s mix may become stock heavy or sector heavy, which may significantly increase risk.
Buying bonds
Unless investors are regularly rebalancing their portfolio (or are having it done automatically), their mix may be skewing more toward stocks than they think. Those who are concerned about market volatility might want to rebuild the bond side of their portfolio.
Bonds might not be considered the safe haven they once were, but bonds with a lower duration can still play a defensive role in a diversified portfolio. And bonds often can be used to produce a steady stream of income that can be reinvested or used for living expenses.
Municipal bonds can generate tax-free income. Bonds, bond ETFs and treasuries can all serve a purpose when the market is going down.
Beta
The beta of a stock is a measure of the interrelationship between the stock and the stock market. A beta of one, for example, means the stock will react in tandem with the S&P 500. If the beta is below one, the stock is less volatile than the overall market.
A beta above one indicates the stock will have a more marked reaction. So replacing high beta stocks with lower beta names could help take some of the menace out of market fluctuations.
Credit: Tim Evans / Unsplash
For those looking for quick returns, picking the “right” stock and selling it at the “right” time is everything. Using a dollar-cost averaging strategy is different. It’s all about patience, discipline, and looking at the long term — and it can help investors keep emotions out of the process.
With dollar-cost averaging, investors contribute the same amount at regular intervals (usually once or twice a month) to an investment account. When the market is down, the money buys more shares. When the market is up, it buys fewer.
But because markets generally rise over time, investors who can keep their hands off the stash might build a pretty nice pot of money over the long term — especially compared to what they might get from a savings account or money market account.
Some investors hand over their cash every month and don’t pay much attention to where their 401(k) plan administrator or the bank with their IRA might put it. But carefully choosing the companies represented in a portfolio — focusing on those with sustained growth over time — could help make this strategy even stronger.
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For years, financial professionals have mostly labeled investors’ risk tolerance as “aggressive,” “moderate,” or “conservative.”
Pretty self-explanatory. But it also can be pretty subjective. The term “moderate,” for example, might mean one thing to a young investor and another to an aging financial professional.
An investor might not even know how they’ll react to a market slump until it happens. Or a person might feel aggressive after inheriting some money but conservative after paying a big medical bill.
To help with clarity, many in the financial industry are now using software programs that can help pinpoint an investor’s attitude about risk, based on a series of questions.
They can also better determine how an investor’s current portfolio matches up to a particular “risk score.”
And they can analyze and stress test the portfolio to show just how the client’s investments might do in a downturn similar to the ones in 2000 or 2008.
Identifying an investor’s current position and goals might make it easier to create a more effective plan for the future. This could involve identifying the proper mix of assets and realigning existing assets to relieve any pressure points in the portfolio.
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“Buy low, sell high!” is a popular mantra in the financial industry, but actually making the concept work can be tricky. Who decides what’s high and what’s low?
Value investors implement their own margin of safety by deciding that they’ll only purchase a stock if its prevailing market price is significantly below what they believe is its intrinsic value.
For example, an investor who uses a 20% margin of safety would be drawn to a stock with an estimated intrinsic value of $100 a share but a price of $80 or less per share.
The greater the margin of safety, the higher the potential for solid returns and the lower the downside risk.
Because risk is subjective, every investor’s margin of safety might be different — maybe 20% or 30% or even 40%. It depends on what that person is comfortable with.
Determining intrinsic value can take some research. A stock’s price-to-earnings ratio (P/E) is a good place to start. Investors can find that number by dividing a company’s share price by its net income, then compare the result to the P/E ratio posted by other companies in the same industry.
The lower the number is in comparison with the competition, the “cheaper” the stock is.
The higher the number, the more “expensive” it is.
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A maximum loss plan is a method investors can use to cautiously manage their asset allocation. It’s designed to keep investors from making bad decisions based on their anxiety about movements in the market.
It gives investors some control over “maximum drawdown,” a measurement of decline from an asset’s peak value to its lowest point over a period of time, and it can be used to evaluate portfolio risk.
This strategy calculates a personal maximum loss limit and uses that percentage to determine appropriate asset allocation, but that asset allocation won’t necessarily be a good fit for someone else. It isn’t a one-size-fits-all plan.
Here are the basic steps:
1. Based on historic market numbers, the investor chooses an assumed probable maximum loss for equities in the stock market. For example, since 1926, there have been only three calendar years in which the S&P 500’s total return was worse than -30%. The worst year ever was 1931, at -44.20%. So the investor might choose 40% as a probable maximum loss number, or maybe 35% or 30%.
2. Next, based on personal feelings about market losses, the investor chooses the maximum amount they are willing to lose in the coming year. Again, it’s up to the individual to determine this number. It could be 20% or 30%, or somewhere in between.
3. Finally, the investor divides that personal portfolio maximum loss number by the assumed probable maximum loss number (for example, .20 divided by .35 = .57 or 57%).
In this example, the investor’s target equity asset allocation would be 57% when market valuations are average (or fair value).
The investor might raise or lower the numbers — and be more aggressive or conservative — depending on what’s happening in the market.
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Whatever strategy an investor chooses, risk management is critical to keeping hard-earned savings safer and losses to a minimum.
Remember: As losses get larger, the return that’s necessary just to get back to where you were, also increases. It takes an 11% gain to recover from a 10% loss. But it takes a 100% gain to recover from a 50% loss.
That makes playing defense every bit as important as playing offense.
Learn more:
This article originally appeared on SoFi.com and was syndicated by MediaFeed.org.
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The information provided is not meant to provide investment or financial advice. Investment decisions should be based on an individual’s specific financial needs, goals and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA/SIPC. The umbrella term “SoFi Invest” refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
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