10 decisions guaranteed to change your financial future
Reprinted courtesy of MarketWatch.com.
To read the original article click here
Investment success isn’t mysterious, and it’s largely under your control, as long as you make good decisions and follow through on them.
Here’s a list of what I think are the 10 most important investment decisions you will make over your lifetime.
1. How much money will you save from your earnings? When everything else is equal, this is the decision that will determine how you fare in the long run. There are two parts to this:
- Assuming you are in your accumulation years, whatever you’re saving now, I urge you to consider increasing your savings by 1% of your income. In the short run, you’ll barely notice this. In the long run, it will make an enormous difference.
- When you calculate how much you’ll need to retire, you can try to save “enough” to meet your needs, or you can try to save substantially “more than enough.” The latter course will give you what I regard as “the ultimate retirement luxury.”
2. When will you start saving for retirement? If you are a long-term investor, time is your most precious commodity. Once it’s gone, you can’t get it back.
If you’re reading this column, it’s probably too late for you to start very early. But with only a modest amount of money, you can give a child, a grandchild or some other young person a huge head start.
3. How will you divide your portfolio between equities (for long-term growth) and bond funds (for stability in tough times)? In other words: How much risk will you take?
There’s no perfect answer to this. If you have too much in equities, you run the risk of taking a beating in bad times; if you have too little in equities, you could run out of money before you run out of life. One of my favorite articles will give you the guidance you need.
4. How well will you diversify your portfolio? No matter whether equities make up 10% of your holdings or 100%, the makeup of those equities will have a big impact on the growth you get.
Too many investors put their money in the S&P 500 Index or a total market index. Those investors are missing out on a world of good opportunities that are easy to access, relatively inexpensive and relatively low-risk when they are properly used together.
Your portfolio should have 10 major equity asset classes, including growth stocks, large-cap stocks, small-cap stocks, value stocks, international stocks and commercial real-estate stocks. This article will show you how — and why — to put together a winning combination.
5. What kind of mutual funds will you use? Among your major choices are load funds, actively managed funds, target-date retirement funds, index funds, focused funds and “balanced” funds. From this short list, I think the obvious best choice is index funds.
Load funds are unnecessarily expensive. Actively managed funds and focused funds have higher-than-necessary expenses and higher risks. Balanced funds are useful in some cases, but they typically lack good equity diversification.
Target-date funds make the risk and diversification decisions for you automatically. Even though they don’t do those things perfectly, investors in these funds have done better than average. (See my final question for one way to use a target-date fund.)
6. Will you accept the returns of the market or try to beat the market? Trying to beat the market is an obsession that leads millions of investors astray (while enriching Wall Street). If you can give up that obsession and settle for getting the returns of the market, you’ll wind up with more peace of mind, lower expenses, less drama and less risk. Best of all, you’ll have above-average returns.
Skeptical? Read more here.
7. How thoughtfully will you plan your retirement withdrawals? Sure, it’s easy to take money out of your savings and spend it. But unless you have a ton of money, planning your retirement finances isn’t simple. You could take out too much and live too long, putting yourself at risk of running out of money. You could be too frugal in the early years, when your health is likely to be better, and wind up with ample money later when you can’t fully enjoy it.
Fortunately, I’ve done a lot of the necessary thinking on this topic for you. You can get a good start by reading this column.
8. Will you stay invested or try to get in and out of the market at the best times? The experts seem to agree that the best course is simply to hang in there and stay the course.
Still, it’s very tempting to think you know when to get in and out of the stock market. My advice: Avoid that temptation as much as you can. Trying to time the market hurts investors far more than it helps them. Before you try timing for yourself, be sure to read about the continuing DALBAR study.
9. Who will you trust? As I’ve described in the past, you have three choices. First, you can trust Wall Street, which wants you to do what’s profitable for the investment industry. Second, you can trust your neighbors, colleagues, relatives and friends, who hope to impress you with how successful they are (though they will rarely if ever let you see the evidence). Third, you can trust the academic community, which doesn’t care what you do or think; the academics just want to know how successful investing works, and to be able to prove it.
I strongly recommend the third choice. You’ll learn more from the article I referenced above.
10. Will you consider making a bold move that has the potential to double your long-term returns with only a moderate level of risk? If I were young again and knew what I know now, I’d be very tempted to apply the following plan to a substantial part of my long-term portfolio.
- First, I’d invest three-quarters of my money in a target-date fund with a supposed retirement date 20 to 40 years in the future. This would not give me the very best possible diversification, but I’d have a one-fund shot at growth along with the built-in stabilization that comes from a gradually increasing position in bonds.
- Second, I’d put the other 25% of the money in a small-cap value fund. This would give me the best shot I know of for superior long-term growth.
Before you embrace this idea or dismiss it out of hand, you might like to read a column I wrote about it.
These 10 questions will give you lots to think about. Fortunately, you don’t have to tackle them all right away. But if you take the time to study all these topics and then put into practice what you learn, it will be time very well spent. I predict that the ultimate payoff per hour will be far higher than any salary you’re likely to earn.
If that’s the result you want, then roll up your sleeves and go for it!
Richard Buck contributed to this article.