Building your investment plan is like a work of art. It requires a little self-discovery and plenty of research. Knowing your options, diversifying your portfolio, and reallocating your portfolio as necessary so that you meet your goals is the key to success.
The first thing that you need to know for building your investment plan is to learn more about yourself.
What type of investor are you?
It is important to learn more about yourself by answering the following questions:
1. What is your objective for investing?
Beyond the obvious reason of wanting to grow your wealth, why are you investing? One popular motivation for many people is to achieve Financial Independence early so that they can be free to do whatever they want in life rather than have to wait until they are in their 60s or 70s. Is that the case for you as well? Or is it some other reason?
Whatever your motivation is, it is important to be very clear about your goals and objectives because there is just too much “noise” in the form of information/tips/etc in the market. It is too easy to be distracted by the next hottest investment and forget about why you started investing in the first place.
2. What kind of returns are you looking for relative to the market?
Fast forward 20 years. Will you be happy if your returns are simply on par with the market? Or will you only be satisfied if you are able to beat the market? Perhaps you will be fine with lower returns than the market as long as your risks are low?
This is an important question that you would need to honestly ask yourself as it will significantly affect your investment plan.
3. What is your risk tolerance?
No one wants to lose, but the truth is, no one knows exactly where the market is heading tomorrow, no matter what they say.
How much of your investment can you afford to lose, both financially and mentally?
If you will be depending on your investments in the short term (within 5 years) to pay your bills and live your ‘normal life’ or retire, then your risk tolerance is low and you should be looking at safer investments (See How long can bear market last).
It is definitely normal to be upset when our investments incur some losses, but if it causes you to panic and lose sleep over it, you should reconsider the amount of money that you are investing and what you are investing in.
The answer to this question would tell you what type of investments you should avoid.
4. What is your time horizon for investing?
One main reason for investing is so that you can one day start withdrawing that investment to fund your (or your children’s) expenses. The closer you are to that day, the lower risk you should take since you have lesser time for the investment to become profitable. People who have a shorter time horizon will typically have more stable dividend stocks than growth stocks in their portfolio.
5. How much time are you willing to dedicate to investing?
With many other commitments in life, we often have limited time to study and monitor our investments. Therefore, we need to build a plan that is in line with the amount of time we can dedicate to it.
In the upcoming chapters, whenever we discuss an investment opportunity or strategy, we will include the expected time commitment, along with expected returns, expected risk, and time horizon. Hopefully in doing so will help you more accurately judge if a certain type of investment is suitable for you.