Financial planning helps you determine your short- and long-term financial goals and create a balanced plan to help you meet those goals. It’s advisable to begin with a review of your current financial circumstances, anticipated changes and future goals.
By understanding investing basics – and adhering to important investment tips – you can start building a portfolio to achieve the right combination of safety, income, and growth.
Whether you want to fund your children’s education, buy a new home, or save for retirement, the financial planning process will help you identify how much you will need to invest, and over what period, for each of your goals.
The difference between saving and investing
Saving is setting aside money you don’t need now in a PureSave or Flexi Advantage account, for example. There is little to no risk involved, returns tend to be lower, and you can access your money quickly.
Investing is buying assets such as shares, unit trusts, or property with the expectation that your investment will make money for you. Investments usually achieve long-term goals. Investments can make your money work for you, and help you to create and preserve wealth.
Whether you choose to save or invest will depend on your goals and your risk tolerance.
Sometimes the hardest thing about saving money is just getting started. This step-by-step guide can help you develop a simple and realistic strategy, so that you can save for all your short- and long-term goals.
1. Record your expenses
The first step to start saving money is figuring out how much you spend. Keep track of all your expenses—that means every coffee, household item and cash tip as well as regular monthly bills. Record your expenses however is easiest for you—a pencil and paper, a simple spreadsheet or a free online spending tracker or app.
2. Include saving in your budget
Now that you know what you spend in a month, you can begin to create a budget. Your budget should show what your expenses are relative to your income, so that you can plan your spending and limit overspending. Be sure to factor in expenses that occur regularly but not every month, such as car maintenance. Include a savings category in your budget and aim to save an amount that initially feels comfortable to you. Plan on eventually increasing your savings by up to 15 to 20 percent of your income.
3. Find ways to cut spending
If you can’t save as much as you’d like, it might be time to cut back on expenses. Identify nonessentials, such as entertainment and dining out, that you can spend less on. Look for ways to save on your fixed monthly expenses, such as your car insurance or cell phone plan, as well.
4. Set savings goals
One of the best ways to save money is to set a goal. Start by thinking about what you might want to save for—both in the short term (one to three years) and the long term (four or more years). Then estimate how much money you’ll need and how long it might take you to save it.
5. Determine your financial priorities
After your expenses and income, your goals are likely to have the biggest impact on how you allocate your savings. For example, if you know you’re going to need to replace your car in the near future, you could start putting away money for one now. But be sure to remember long-term goals—it’s important that planning for retirement doesn’t take a back seat to shorter-term needs. Learning how to prioritize your savings goals can give you a clear idea of how to allocate your savings.
Define your investment objectives
It is important to be clear about your investment objective before you buy. Ask yourself questions such as:
- Why am I investing? (to buy a home, build a retirement fund, pay for my child’s education)
- What kind of returns do I expect?
- What portion of my net worth would I like to set aside for investments?
- What do I intend to use the gains for? How many years do I have?
- What is my investment objective? Is it capital appreciation, capital preservation, or a combination of income and capital growth?
- What kind of risk am I willing to take in the long run?
Next, evaluate your risk appetite. Some people are satisfied with a low-risk, low-return option, while others are willing to endure short-term loss for long-term potential gains.
6. Short-term vs longer-term investment goals
Short-term goals may include setting up an emergency fund, saving for a dream holiday, or putting aside a deposit for a new car. Fixed income investments are worth considering for these types of goals as they offer relatively lower risk than equity investments (which require a longer period because of the risk involved). Fixed income investments include unit trust funds, which are flexible and immediately accessible. They also provide higher interests rates than those traditionally available through bank deposits.
It’s worth comparing different rates and overall expected returns before you make a decision.
How long you want to invest will help you to choose which investment options are right for you. Longer-term investment usually means riskier assets, such as property and equities.
A good investment will accumulate value over time but to take advantage of the opportunity, you will have to be prepared to allow your money to be outside of your direct control for a substantial period of time.
Think about buying shares, bonds, mutual funds or property with money that you will not need in the foreseeable future. One of the secrets to the success of long-term investing is compound interest, which effectively allows you to earn interest on interest. It is considered to be among the best ways for your money to grow over the long-term.
Regardless of your timeframe, whether short- or long-term, it’s prudent to maintain a diversified portfolio of investments.
Income versus growth
A key decision in investment planning is determining whether you’re investing towards income or growth or a bit of both.
This will help you choose between income assets and growth assets:
- Growth assets: A growth fund looks to grow the original sum invested as much as possible, or sometimes by a set amount. This investment may primarily be equity or property and is intended to yield large capital growth returns over time, while protecting your investments against inflation. Investing growth assets over a shorter term isn’t ideal as the returns tend to be more unstable.
- Income assets: An income fund provides investors with earnings from the dividends of the companies into which the fund manager puts money. Returns include income such as cash, bonds, property and certain equities. While these investments are generally more stable, their returns are often lower. Investing in these assets is ideal if your primary need is for income.
Investing for your child’s education is over a shorter term, so a more stable income asset would be ideal, while investing for retirement would require a large capital growth yielded by growth assets.
Do your research
Good returns on your investments rely on good investment decisions. Financial experts caution against investing without a solid understanding of what you are investing in, especially if you are going to do it on your own. Educate yourself, learn what you can about investments and familiarise yourself with the jargon by watching videos on YouTube, reading articles by experts, listening to podcasts and speaking to advisors.
If you prefer personal contact, speak to your financial advisor, investment manager or stockbroker.
7. Know your risk appetite
The answer to this question is the key to finding out what works for you. Because a high return, risk-free investment doesn’t exist, higher returns are accompanied by high risks. Your risk tolerance may depend on three things:
- Whether keeping your money safe is important
- Whether seeking higher growth is your goal
- When you need the money
Your investment plan should include a realistic understanding of the fact that expectation and actual return may vary. That is the risk you take. This knowledge is an important part of developing your investment plan.
8. Set return on investment goals
As inflation increases, your money’s purchasing power decreases. To outstrip inflation when it comes to saving for your child’s education, for example, you need to beat annual education increases.
If you choose to save over investing, the money you accumulate may be insufficient for long-term goals like your retirement. However, if you’re able to save more than 15% of your monthly income, saving in a bank account may be an option.
9. Three factors to consider when investing:
- Diversify your portfolio
Amidst the uncertainty of the global economy and financial markets, it’s best to spread your investments. A diversified portfolio across a wide range of asset classes helps mitigate your risk and strengthen the potential to receive returns.
- Preserve your money when you change jobs
Cashing in your pension fund every time you leave a company is unwise as you will lose all your pre-tax benefits that come with waiting until retirement age. Moreover, while this money may come in handy for other expenses, you will lose out on the compound interest as you will have to start saving from scratch at a much later age.
- Take emotions out of the equation
A good financial advisor can help to make objective decisions. Ensure you choose an advisor with a good reputation for giving ethically sound investment advice. An independent advisor is best as they won’t be associated with a particular firm. Although independence doesn’t guarantee good advice, it’s a good place to start.
10. Make saving automatic
Almost all banks offer automated transfers between your checking and savings accounts. You can choose when, how much and where to transfer money or even split your direct deposit so that a portion of every paycheck goes directly into your savings account. The advantage: You don’t have to think about it, and you’re less likely to spend the money instead. Other easy savings tools include credit card rewards and spare change programs, which round up transactions to the nearest dollar and transfer the difference into a savings or investment account.