Want to get more from your long term investments? Then read on and learn how to do just that.
1. Set Goals And A Timeline
Whatever your main goals are, it is crucial to determine how long you wish to invest and when you’d want to pull your money. You thus need to outline what you want to achieve and within what time frame. How much money you’d need to invest to achieve the primary goal is something you should have in mind as well.
After determining your investment goals, you can start calculating when the best time will be to cash in. At this stage, you’ll be able to decide on the best-suited investments that will make it possible to achieve your dreams. The stock market, for example, might not be the appropriate investment if your only aiming at short-term goals. If you are looking to save money to buy a car or furniture for your home, you might want to set the money aside in money market accounts or savings account for easy access when you need the cash. Choosing to invest the said amount in the stock market puts it at greater risk, considering how volatile the markets are. In addition, you’d need to create enough time to allow the market to recover from a downswing.
The stock market would only be profitable if looking into long-term goals. It is thus one of the best investments if looking to save money for your kid’s education, your retirement, retiring abroad and the implied international health insurance costs or other projects 20 to 30 years down the line. Such long periods allow your investment to grow and make riding out market downturns relatively easier.
2. Determine Your Risk Tolerance
Risk tolerance can be loosely defined as the measure of one’s (an investor) ability to stomach weak markets. One’s risk tolerance can be determined by his/her goals, time horizon, and how comfortable they are with the investment. Persons with higher risk tolerances can stomach longer time horizons, which can be rewarding because your portfolio can hold more stock shares.
If you have a low-risk tolerance, for example, investing in less risky assets with a shorter turnaround, such as cash, bonds, and equivalents, would be your best option. These are less volatile and hardly affected if/when the market drops. For these reasons, proper knowledge of yourself will help you determine your risk tolerance. If a slight market drop gives you sleepless nights, even with a 20-year investment, it would be best to avoid aggressive allocation to stocks. If you aren’t easily bothered by market volatility, you are better placed to invest in aggressive allocation for your long-term goals.
3. Set a Fitting Asset Allocation
By looking into and understanding your time horizon, goals, and risk tolerance, you will have an idea of what assets (stocks, cash, bonds, etc.) you’d be interested in investing in (portfolio). For instance, a portfolio can hold 0% cash equivalents, 70% stocks, and 30% bonds. As a rule of thumb, you want to hold as many stocks as possible if you are comfortable with longer time horizons. Stocks are the principal drivers of long-term growth, something expert investors understand all too well.
As you approach your goal, you might also want to start converting/shifting some of your assets to fixed-income investments. This is because the assets will be more vulnerable to market volatilities, especially as you approach your goal. Should the market experience a significant drop at this time, the risk of losing some money and not reaching your goal will be imminent. Shifting your money gradually gives you a soft landing should the worst happen. Regardless of the market direction, you can almost be assured of a stable source of income.
4. Diversify Your Investment Portfolio
Portfolio diversification is crucial, especially when making long-term investments. This aligns well with the phrase’ don’t put all your eggs in one basket’. Diversifying your portfolio means you’ll have invested in different assets, reducing your risk margin. Imagine having a portfolio from only one company, and the worst happens. The risk of one company going under is greater than if it were different companies. Some companies/stocks will do better even when others are dwindling.
It is worth noting that a diverse portfolio can contain different classes of assets, such as bonds, stocks, and cash equivalents. You can also have different types of assets across geographies, sizes, sectors, and industries. A diverse portfolio and foreign assets react very differently in any market condition, a reason you don’t want to invest in just one. An excellent example of this is domestic stocks; while they may start to struggle here in the Europe, they could be thriving in US stocks. Energy stocks are also quite different from tech-stock in that a slight drop in oil prices can affect the entire energy sector, which won’t be the case with tech stocks. Proper and adequate research is thus required when making such crucial decisions.
Expert investors choose to diversify their portfolios by using index funds, mutual funds, and exchange-traded funds to help bring their risk index even lower. You however need to know the market well to understand and determine which funds are worth investing in.
5. Start as Early as Possible
The advantages of starting your investments early far outweigh starting late. The first and most obvious benefit is that you will have enough time to ride out market volatility. In addition to this, it also increases your time horizon, giving you the confidence to invest in riskier (but rewarding) investments, such as stocks. Starting early allows one to build risk tolerance as time passes, making him/her more relaxed even when the market is at its most volatile point. Consider this; stocks have a higher earning potential than bonds. The stock market can earn an average of 10% in returns per year. Find out what is the bond market telling us?
Secondly, starting early allows for one to start making the most of their compound interest. Compound interest is one of the key tools/players in the investment world. Although you might know this already, compound interest can be defined as the interest you earn on top of your interest.
When you start investing early, the chances of reinvesting your returns are much higher than if you start late. Reinvesting your profits also increases the chances of meeting your target or surpassing it. The more you reinvest, the greater your returns will be, translating to a much more significant investment than you started with.