The Most Important Word in Your Financial Life

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Over the years I have come to expect that I will be answering financial questions at just about every social event I attend. It’s human nature. People know I am an investment manager and quick “pick-your-brain” questions are harmless in such settings. The questions usually involve asset allocation, whether it is a good time to be in or out of the market, is a certain sector (such as technology) poised to do well, or “my broker says I should buy this, what do you think?”. Generally, people are either looking for validation of a choice they have already made or are looking for tips from a professional.

To be honest I don’t mind the questions; I got into the financial business because I like helping people. The problem I have is not, as many professionals lament, that people are seeking free advice but that their questions lack the context of the most important word of their financial life.

Goals

Your investment strategy should be designed to achieve your goals. A discussion about investment vehicles and the environment that impacts them is meaningless without framing it in terms of your goals.

You have likely heard the analogy “choosing a destination before you start your car.” Why are you getting in your car in the first place if you haven’t decided where you are going? True you can go for a joy ride, but even a joy ride requires some direction and will end when you return home. Knowing where you want to go is also fundamental to any investment discussion.

Without the context of why you are investing the answer to almost any investment discussion will likely include the phrase “it depends.” How much of your portfolio should be allocated to equity investments? It depends. Is now a good time to buy financial stocks since they have been beaten up so badly? It depends. There are few universally applicable answers, and generic financial advice is often worse than no advice at all.

Eventually you are going to spend the money you are investing. What are you going to spend it on? The answer to this question is the first step in framing your goal and any investment strategy that supports it.

I’m going to the beach, give me the keys.

So, you are investing for retirement. Great! That’s a smart move, far too few people are investing for their retirement. When do you want to retire? How old are you now? How much are you saving each month? How much do you have in your retirement plan now? How much money do you plan to spend each year in retirement? You see where this is going …

If we think back to our car-ride analogy it would be like saying “I’m going to the beach.” Which beach? How far away is that from your house? How many people are going with you? How long are you going to stay? The answers to these questions will help you decide whether to take the convertible, or the minivan, or jump on a plane to the Caribbean. There is also a big difference in the cost associated with the day trip to the beach and a week in the tropics.

The same logic holds when we think about choosing an investment strategy for your retirement goals. If you are a 30-year-old hermit, who plans to sit at home in your studio apartment during your golden years watching old movies, your needs will be a lot different than if you plan to travel the world in style.

Setting your goals.

In the first post on the new Course Pilot Financial site, Focus On What You Can Control, I outlined the four controllable variables everyone has when constructing and managing their investment plan. I framed the examples for retirement as an overall goal but you can insert whatever goal you choose for your own person situation. Think about the following variables and how you are using them to achieve your goal:

1. Savings Rate - Savings is deferred consumption. What are you willing to sacrifice now in order to achieve your future goal? Would you prefer to save less that you’re currently saving? What would you give up in retirement if you could spend more now?
2. Retirement Age – When you retire you will shift from earning an income to consuming an income from investments and other passive sources. When do you want to stop working for a living? Would you work longer if it meant a more secure retirement?
3. Risk Exposure – Risk is a tool. Use it wisely. Are you okay with wild swings in your portfolio’s value as you work toward your retirement goal? Or would you prefer a steadier pace?
4. Planned Spending – What type of lifestyle are you planning to have in retirement? How much will that lifestyle cost? I find people do not spend enough time thinking about this one. Spend more time planning and revisit your plans frequently.

Keep in mind that each of these variables can be used as a form of currency against the others. If you want to retire early and spend a lot then you will need to either save a lot or take some significant investment risks. If you can’t stomach the volatility of the stock markets then maybe you should think about saving more and possibly retiring a few years later. Understanding the push and pull of each of these variables as they relate to your current financial situation and your future goals is power.

Lastly, remember that life changes with time, and so will your goals. Goals you set today aren’t set in stone. Chances are your life today is a little different than it was ten years ago. Your dreams and ambitions for the future will change more as life goes on. The reason for setting financial goals is so you don’t miss out on things that are most import to you in life.

By the way…you can still ask me questions. Feel free to ask me your financial questions here on genConnect.com.

Tags: featured, Finance, Investment, Pension, Personal finance, retirement

Category: Career, Money