By Benjamin Stubbs, Spring 2014 Student Intern
You’ve probably heard it said that a journey of a thousand miles begins with a single step, but in the investment world, a good journey begins before a single-step is taken. A good journey begins with a plan. This point is illustrated well by Alice’s meeting with the Cheshire Cat in Lewis Carroll’s Alice’s Adventures in Wonderland:
Alice: “Would you tell me, please, which way I ought to go from here?”
Cheshire Cat: “That depends a good deal on where you want to get to.”
Alice: “I don’t much care where.”
Cheshire Cat: “Then it doesn’t much matter which way you go.”
The Cheshire Cat’s logic is just as true when applied to investing as it was regarding Alice’s journey—which way you should go is determined by where you want to end up. So, before anyone can help you decide which investment path you should take, you must first determine your investment goals. Only then will you be able to get help achieving reaching your desired destination. To help you set goals, this article provides some tips on determining how much you can afford to invest, what your investment goals are and how risky you are comfortable being with your investments.
How much can you afford to invest?
Though for many investing may seem like a walk through Wonderland, setting your personal investment goals can be quite simple, and there are thankfully plenty of online tools to assist you. Determining your financial goals is essentially as easy as determining what you can afford to invest, what you want and when you want it. According to FINRA’s advice on “Getting Ready to Invest,” a necessary first step to take before you invest is to assess your finances—calculating your net worth and your cash flow—to determine how much you can actually invest.
Where do you want to get to, and how much will it cost you?
Next, you’ll need to determine what you want out of investing, how much it will cost, and when you want to have it. For example, you may want to buy a car next year, a house in five years, a boat in 20 or maybe a nice vacation for an anniversary, or you may want simply to generate income to help balance your finances. On the other hand, you may want to ensure that you have enough to retire on—in two years or in 30—or you may want to help your children or grandchildren pay for college. For practical help determining what you want, see the first page of this article by Dave Roos with How Stuff Works.
After you decide what you want, try to figure out how much money you will need to invest to get it. Start with how much your goal will cost (or how much money you want saved by a certain time) and work backwards. Determine how long you have until you want to reach your goal, and calculate how much money you will need to save each month or each year to reach your goal. If, based on your calculations, you can afford to invest a certain amount each month that will get to your goal, then commit to investing that amount, and you’ll be on your way.
How risky do you want to be?
Deciding whether to invest aggressively or conservatively can generally be done by answering a few questions. What is your timespan for investing? Can you afford to lose money, or is necessary that you preserve your initial investment? Will you lose sleep worrying about your money, or will you be able to handle calmly market fluctuations? There are plenty of online quizzes will tell you whether you are more of an aggressive or conservative investor. For a somewhat unorthodox approach to determining your risk tolerance, read and answer the questions in this article, by David Futrelle.
Regardless what any quizzes may report or what anyone may tell you, it is important that you are comfortable with your investment. After all, it’s your money, so ask yourself how you will respond if you were to lose your investment and how important it is to you that your investment grows rapidly. In the end, you should be comfortable with whatever you choose, even if that means investing more conservatively to settle for a less glamorous retirement.
Investing can be complicated, but it need not be your adventure through Wonderland. So before you start down an investment path, decide where you want to get to. That decision (and a little guidance from our blog) will help you decide which way you ought to invest.