Where should I invest my money?
When we meet new people we naturally ask questions to see if we are going to like them. One such question is “what do you do?” and then this is followed by another question seeking to find out more.
Recently I was asked this question and when I replied to say that I am a Financial Planner, the next question was “where should I be investing my money?”
I gritted my teeth as I always feel annoyed that people think Financial Planning is all about investment, when it is about so much more – happiness, security, fulfilling dreams etc. But that is another story.
I answered with my usual short answer which is – “It depends! It depends on what you want to do with your money and your life; how much risk you want to take and whether you can afford to lose any.”
I have always thought that if the questioner was interested in learning more than this, they would ask more questions.
But then I started to think about this a bit more – what if the person didn’t understand my answer, what if they didn’t understand investments and were just making small talk; what if they didn’t know what to ask next; what if money was an overwhelming and perplexing subject for them, what if, what if………..
So I thought I had better prepare a longer, more considered response which I could direct someone to next time I am asked “where should I be investing my money?”
The first consideration has to be what the money is for – are there specific goals to be met e.g. a new car; early retirement; a cruise every year etc. Is the desire just to main the current lifestyle status quo or to make major changes?
Once we have determined all possible future expenditure needs, we can work out how much income and capital growth is required. This is effectively a personal benchmark – a number that is specific to that person’s desired lifestyle.
We then need to know how much risk someone is comfortable with – some people take far more risk than they need to by investing in share portfolios and the like, while others will never be able to achieve their goals because they take too little risk and keep everything in cash.
We also need to consider whether someone has the capacity to lose money without it affecting their ability to achieve their goals – if they can afford to, then maybe they will feel comfortable taking a bit more risk.
Once we know what annual growth is needed for someone to achieve their goals as well as their attitude to risk and capacity for loss, we can put together a portfolio of different assets that is most likely to achieve the necessary growth within the stated risk tolerance.
The four main asset classes are cash, bonds, property and shares. Different combinations of these will satisfy the requirements of different people. For example, cautious investors will have more cash and bonds, while people wanting (or needing) to take more risk will hold more shares etc.
Some people like to “specialise” on one type of asset because they understand it better. The following two examples highlight this and the ensuing problems.
I often come across people who have large property portfolios but very few other assets – “my properties are my pension” is a common statement. While on paper, they may be considered wealthy, often they are not making the most of their life because they are constantly having to repair or renew buildings and/or find tenants and lets face it, you can’t just sell off a front room or back bedroom when you want to take the family on holiday! Having lots of money tied up in property alone, makes it difficult to be flexible and tax efficient. There is no evidence that, other than in London, property investment produces a superior return to a more balanced portfolio of assets.
Other people are so frightened or ignorant about investment that they prefer to keep all their wealth in cash. Sadly these people don’t realise that they are taking a bigger risk than investing, because their money is losing value (it’s purchasing power) because of inflation, especially in the current low interest environment. And because they are afraid their money will run out, they don’t spend it on a fulfilling life and often die with huge amounts in the bank having denied themselves a good life for many years.
In both of these common but extreme cases, my experience is that their wealth is not used well and they end up paying unnecessary tax when they eventually die.
So the message is that diversity is important. Keep cash for everyday use and an emergency fund, by all means buy property to live in, but for longer term investment with predicable growth targeted at personal goals, a more diverse portfolio of assets is required.
So as you can see, when the next person asks “where should I be investing my money?” it might take me a bit of time to explain all of the above, so I will probably still revert to my usual answer of “It depends!”.