Step 1: Decide how much risk you are comfortable with
After determining the need for investment, you should know how much risk you are prepared to take. For example, do you want to adopt a conservative, moderate or aggressive investment strategy?
Ask yourself the following questions before you make your decision:
- Are you prepared to make long-term investments, which will allow you to take greater risks for higher returns?
- If you are going for short-term, high-risk investments, can you afford to lose some of the money you invest?
- If you have children or dependents, what level of risk can you take and still be certain of their future?
- If you want your money to be safe, will you be content with a moderate rate of return?
- If you opt for safe investments, will the returns be enough to cover inflation?
The important thing to remember is that, in general, you can afford to choose higher-risk investments if you are investing over a longer term. This is because the investments are likely to show an overall upward trend over a long period, even if they dip in the short-term.
If you need short-term investments, you will find low-risk products a more reliable and safer option.
How do I know my risk tolerance?
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Step 2: Understand what kind of investments to look for
Once you know your risk appetite, you can start setting clear investment objectives. These include why you're investing and how you're planning to use your investments. Your objectives could incorporate any combination of the following:
- Retirement
- Protection for your family
- Education for your children
- Special needs or emergencies
- Specific occasions (for example, a wedding, buying a house, emigrating)
- Wealth accrual
Now list your objectives in order of priority, because you may not be able to afford to achieve every goal.
Divide your objectives also into long-, medium- and short-term goals. This will help you choose the type of investments you want to make.
For example, if you plan to send your children to study abroad in three years' time, you'll need a fairly low-risk investment. This is because you can't afford to risk your capital over the short-term.
Think about when you will need the return, as it also helps to determine the time horizon of your investment.
Step 3: Figure out how much to invest
Before you start investing your money, you should know how much you could spare each month. Naturally, the more you can put aside now, the better it will be for your future. It is up to you to achieve a balance between your current lifestyle and your financial expectations.
Calculate your income and expenses taking into account the following:
- Mortgage repayments
- Personal tax
- Loans and overdrafts
- Living expenses
- Emergency funds
- Car expenses
- Entertainment
- School fees
- Family commitments
Generally speaking, whatever spare cash you have after allowing for all your expenses is what you can afford to invest. You can commit a certain amount each month and look at it as a monthly expense.
As your salary increases, you should also increase the amount you invest proportionately. By doing this, you will be keeping up with inflation and your money will be working harder for you.
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