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Financial markets are forever moving as the economic, political and investment environments change. Coupled with this are changes in personal circumstances and ongoing shifts in legislation. We list 10 ways to help you navigate your financial position in these constantly changing conditions.
1. Begin with the end in mind
It’s important to think carefully about your long-term financial goals as they can give you important direction. Without clarity and a vision for the future, it’s difficult to manage your money purposefully.
Many people refrain from investing because they’re waiting for ‘the right time’. This may be waiting for the new year, for the right job, or the right market conditions. However, inaction or inertia conspire to work against you, as you are losing out on important growth and the compounding of returns.
If you start investing at a young age, it can become a habit. If you start later in life, it can be daunting, so take it in small steps: think of the future, take control and act.
2. Take control of your finances
Two concepts are useful in reviewing your personal financial position: Your cash flows and your balance sheet.
Fine-tuning your cash flows – trimming expenses, or diversifying income streams – can help you accumulate more assets, through more efficient cash management.
Your balance sheet refers to your assets and liabilities. The difference between these two is your net worth. Ideally, you want to grow your net worth over time, meaning your assets outweigh your liabilities.
This does not imply that all liabilities should be avoided. Some debt, like a bond on a house, can be considered ‘good debt’, as it will result in you accumulating more assets, and thus a greater net worth.
3. Don’t confuse saving with investing
Saving is an act of preservation. If you need your money in the short term (next year or two), it should be kept in a cash-type product. This way, the value of your capital will be maintained.
Unfortunately, cash in a savings account loses value if it’s held for too long, as inflation erodes its purchasing power. This is known as inflation risk.
If you don’t need your cash in the short term, it may be better to invest it to achieve more growth. In the long run, an appropriate investment strategy will grow far more than your savings would.
4. Compounding returns grow long-term wealth
Einstein famously called it ‘the 8th wonder of the world’.
When you save or invest, your money earns interest. Over time you will earn interest on interest, called compounding. Like a snowball effect, your money gets bigger and bigger.
Compounding growth works its magic over extended periods of time. The sooner you start investing, the longer compounding will work in your favour.
Let’s use an example:
| Simple interest | Compound interest |
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Invest R1,000 at an annual interest rate of 10%.
In the first year, you earn R100.
You earn R100 in the second year,
R100 in the third, and so forth.
After 20 years, you’ll have R3,000
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Invest R1,000 at an annual interest rate of 10%.
In the first year, you earn R100.
You earn R110 in the second year,
R121 in the third, and so forth.
After 20 years, you’ll have R6,727 |
5. Inflation reduces your spending power
Inflation reduces the value of your cash, therefore eroding your spending power.
This presents a critical challenge to investors: how to achieve inflation-beating growth, also known as ‘real returns’.
Over the long term, a savings account is unlikely to get you real returns. Thus, you will need to take on a certain level of risk to grow your money above inflation.
6. Take calculated risks
Risks exist in all facets of life, including investments. Consequently, you should be mindful of managing risk when investing your hard-earned money. Thankfully, investment risk can be a calculated risk.
When investing, risk is the likelihood that your actual gains will differ from your expected investment return, or goal.
The more risk you take on, the higher your potential returns. Often this comes with volatility and therefore requires a longer time horizon to realise your desired returns.
Volatility can be intimidating, but more volatile assets like equities and property should provide the best growth in the long run (10 years +).
Having an appropriate risk strategy can make all the difference. A qualified financial planner can help you find the right risk/return balance, keeping your goals in mind.
7. Don’t put all your eggs in one basket
It’s less risky to own a portion of 100 businesses than 100% of one business. Not a lot needs to go wrong for one business to fail, but it is unlikely that 100 businesses will fail simultaneously.
Diversifying your investments across different asset classes – shares, property, bonds, cash, commodities – will reduce your portfolio’s risk. This is because certain asset classes react differently to changes in market conditions.
It’s equally important to diversify geographically. South Africa makes up less than 1% of the global economy, so why keep all your eggs in our tiny economic basket?
8. Protect yourself against life’s uncertainty
Having a sound financial plan is as much about protection as it is about wealth creation. Life can be unpredictable, so ensure you have a plan for the unforeseeable.
Having a decent emergency fund (3-6 months expenses) is a great starting point. Beyond that, there are insurance options to cover almost all risks you may encounter. Whether it’s losing your cellphone, having an emergency operation, or covering the bills while ill, proper insurance coverage can make all the difference.
Our protection needs will change at different life stages so it’s important to regularly review your circumstances.
9. Emotions and investing don’t mix
Successful investing takes commitment, patience, and discipline.
Investors tend to be reactive to market conditions, instead of proactive. Excitement causes investors to buy when markets are high and pull out when markets are down. Unfortunately, this means buying assets when they are expensive, and selling when they are cheap, destroying value in the process.
In the words of the great investor Warren Buffet, we should ‘…be fearful when others are greedy and be greedy when others are fearful.’
Our personal relationship with money can often be our own downfall. A trusted financial planner can help you better navigate the ups and downs, rationalising your investment relative to your goals and the stage of the market cycle.
If you would like to read more on this topic, click here to see our article from March 2022.
10. Ask for help
Managing your finances can be overwhelming. The environment is constantly changing, and every person has unique needs and goals.
A qualified financial planner should understand your goals and be prepared to both challenge and support your thinking. Over and above financial advice, a financial planner can act as a sounding board for new ideas and provide an unbiased analysis on the state of your financial position and plan.
To review your financial plan, speak to one of our Client Portfolio Managers today or click here to start your personalised Financial Plan.