Before you choose an investment strategy and start allocating your money to various sources, answer the following questions. How you feel about each will help indicate the right investments for you.
1. What Are Your Goals?
The right investment strategy will push you towards what you want to achieve. Are you looking to grow a passive income stream? Do you want to invest for a retirement that’s 30 years down the road? Your goals will help determine where you should invest your money.
2. What’s Your Time Horizon?
If you plan to use your money in five years or fewer, higher-risk investments don’t make much sense. You risk walking away with less money than what you started with due to losses.
Unless you can give yourself five or more years, save your money in a high-yield savings account or CD. Your cash is safer there than in the market, and you can earn a small return, which is better than none at all.
With a time horizon beyond five years, you have more investment options. You can take greater risks in order to go for bigger returns, since you’ll have time to recover from losses if the market experiences volatility.
3. How Do You Feel About Risk?
All investments come with risk. Knowing how much risk you’re willing to take will help you determine which investment strategy makes sense for you.
If you have a long time horizon and feel comfortable with risk, you may want to invest heavily in stocks. If you want to use your money sooner or feel extremely uncomfortable exposing your money to risk, keep more of a balance between stocks and bonds.
These are just two examples. You might want to invest in mutual funds or real estate, but the same principle applies: You need to evaluate the risk involved and decide how much you can expose yourself and your money to.
4. How Much Do You Understand What You’re Investing in?
You don’t need to know everything, but you shouldn’t invest in something you don’t understand at all. If you want to expand your options and explore new investments, you may need to hire an advisor to help you.
Look for someone who is a fiduciary. They should also be fee-only, meaning they only get paid directly by you (and not by companies who pay a commission when the advisor sells you a product).
An advisor can help you create and execute an investment strategy that takes into account your goals, timeline and risk tolerance. They can also consider factors you may not understand, like the tax ramifications of certain investments or how investing in one area can affect another part of your financial life.
5. Do You Want to Be Active or Passive?
Active investment management is a full-time job. You constantly analyze the market and chase the best returns through incessant buys and sells. Actively trading (or having fund managers do it for you) also adds to your investment costs and eats into your returns.
Passive investing, on the other hand, is more of a “set it and forget it” approach. It’s cheaper and usually better for average investors. There are fewer decisions to make, meaning you may reduce the chances of making a costly mistake.
And again, if this is all feeling overwhelming, remember: Hiring a fiduciary, fee-only financial advisor might be the first step in developing the right investment strategy for you.
