I came across this article on Bloomberg recently, written by Business Journalist, Suzanne Woolley, and thought it was a perfect idea for a blog at this time.
While most of us understand that our finances, like every area of our lives, need to be planned, managed and executed to allow us to reap the benefits in the future, just thinking about investment management engenders feelings of stress. What if we make a mistake and lose our hard-earned savings? What if I have an emergency and have to access cash quickly? I don’t understand how the stock market works? I am afraid to put my money at risk.
I’ve taken the liberty to adapt the article to our local conditions so that it can be more relevant to our investors.
Here are seven simple ways to increase the odds of getting in, and staying in, good financial shape.
Save early and automatically
Get in the habit of saving.
From the moment you begin earning income, you should start saving, however small. The rule of thumb is that you should save at least 10% of income, however, the appropriate savings rate depends on your financial goals. Most of us want to reach a place of financial freedom and if not before, we certainly want financial freedom at retirement. If you have a pension plan at work, you may already be saving automatically. Additional options include putting your savings in a Credit Union and reinvesting the dividends; investing in UTC; or other mutual funds – and there are several on the market!
Saving in a taxable account is important as well. Ideally, with every salary payment, have your bank send a set amount directly to a savings or investment account. You may not miss what you don’t see in your chequing account. If you can, increase that amount over time.
The point is just to get in the habit of saving. Even if you start small, it’s a start. And seeing your money grow can be very motivating.
Expect financial emergencies
In a 2014 survey of households in the USA, approximately 47 percent of respondents said they wouldn’t be able to cover an emergency expense the equivalent of TTD 2,500 without selling something or borrowing money. I suspect that the same is true for households in Trinidad and Tobago. Therefore, when you start saving, you may want to set aside money for an emergency fund before saving for retirement. This is due to the fact that in a financial emergency, many people have to tap into long term savings, which reduces their ability to realise their savings targets.
A more daunting prospect than needing $5,000 for a car repair or emergency dental work is saving in case of a layoff. Many financial advisers recommend building a fund that will see you through six months of expenses. The older you are and the higher your salary, the bigger your emergency fund should be, since it may take longer to find a job you want. Be sure to factor in higher health-care costs that come with losing an employer’s health benefits.
The Chart below displays the median cost of a household shock: $15,000.00. Given a month to raise that amount, here’s where people would turn.
Set an asset allocation, and diversify
Asset allocation is perhaps the most important decision an investor will have to make. Research by numerous finance professors has shown that the majority of returns over time come from asset allocation rather than picking the right security or the right time to invest in the market.
Your assets should cover a range of investment instruments including stocks, bonds, mutual funds, derivatives, foreign exchange, insurance and high yield investments among others.
In the past, financial advisors have recommended subtracting an investor’s age from 100 to determine how much should be invested in stocks. For example, a 40-year old would be 60% invested in stocks. And as you age, the portfolio should become more conservative.
Risk tolerance is based on individual appetite. For younger persons, stocks pose less risk because they have a constant stream of savings. For older person, poorly performing stocks can wipe out retirement savings.
Keep fees low
You should always ask you investment adviser for a clear explanation on how their fees are charged. Given that returns are not guaranteed, it is very important to ensure that portfolio fees are reasonable. One strategy that you can use is to keep your investments simple, which would automatically keep your costs low.
Portfolio fees usually vary between 1 and 2% of the assets under management but fees can also be represented as a commission, hourly rate, flat fee
Choose your financial adviser carefully
Selecting the appropriate financial adviser is a highly important part of the investment process. The first real step when seeking an advisor is to think through what you’re looking for: your goals in seeking an advisor, what sort of relationship makes sense given those goals, and how much help you expect to need on an ongoing basis, among other issues.
Once you select an Investment adviser it is important to ask some questions about strategy. Is the advisor clear and transparent about his or her approach? Does the advisor employ low-cost funds or more expensive ones? How much attention does the advisor pay to tax efficiency? Taking the time to understand your advisor’s strategy can help you stick with the programme through varying market conditions and therefore reap the benefits of your investment game plan.
Spend less than you earn
Spending more than they earn is a pattern for 23 percent of millennials and 19 percent of Gen Xers, according to a 2014 study by the US Financial Industry Regulatory Authority’s Investor Education Foundation. It is therefore not surprising that most persons do not have an emergency fund in place.
Lifestyle creep is a major contributor to the challenge to build emergency funds and investments. As our incomes grow, we often increase our spending—we upgrade phones or cars, or take fancier vacations—rather than increasing our contributions to annuities, investments and other savings by a small percentage.
In Trinidad and Tobago, the results of the 2016 Consumer Confidence survey also suggests that persons are trending towards using more costly forms of financing for acquiring household items such as hire purchase and credit cards because of the convenience. This can place you at greater risk in the event of an income shock.
If you spend less than you earn, you stand a better chance of not getting trapped in any kind of downward financial spiral. That can happen if you need to resort to loans to pay for a financial emergency you haven’t saved for.
Maximize employee and tax benefits
Many employees do not take advantage of employee benefits such as matching savings plan contributions, vacation loans and insurance plans. In addition, you should ensure that you maximize the tax benefits available from investments in deferred annuity plans and venture capital companies. If you choose to forego these benefits you effectively cheat yourself out of an extra 1% to 2% of annual income.
Another benefit worth paying attention to: disability insurance. Of all the financial wellness benefits, it’s probably the most important, according to Willis Towers Watson, a global multinational risk management, insurance brokerage and advisory company. “A lot of individuals think about life insurance, but you are much more likely to be disabled than to die.”
Locally, most large companies provide basic disability insurance as a benefit and the premiums tend to be quite small. Smaller companies can also offer disability coverage through their group health plans such as those offered by the Chamber of Commerce and the credit union sector. For individuals, almost all of the local insurance providers offer disability coverage in the form of personal accident coverage or dismemberment coverage.
Maximising your employer’s benefits allows your money to go further and at the same time, lowers your wage amount for income tax purposes.