Setting Yourself Up For Success Before Investing
Article Last Updated: 28 January 2021
As we've said before, investing in the stock market is relatively simple and a reliable path to wealth creation, but that doesn't mean you should start trading immediately. Investing isn't about chasing the next big winner — it's a journey involving a number of steps and decisions. Before you embark on this potentially life-changing adventure, you've got to plan and prepare.
That's why we stress the importance of things you can do today to set yourself up for investing success — like clarifying your investing goals, sorting out your budget, and understanding investing psychology.
Getting started in investing
Think of it as putting together your personal financial roadmap.
Begin with a clear destination — what are you trying to achieve? If it's to retire by a certain age, how much money will you need to live the lifestyle you want?
Defining your goals informs the structure you'll need over your investment horizon — that is, the period of your investment — and the assets that might get you there. It helps you to stay focused.
Understanding the market
Figuring out how the stock market works, common terms used by investors, and other share basics can boost your confidence in making sound investment decisions.
Being aware of emotions and finding ways to control them from the get-go is critical for investing success too. While investing should be a rational process, gut reactions, as well as feelings like fear, anger, denial, greed, and pride, can have a huge impact.
Ask yourself: how will you feel and react if you start losing money? Will you cut your losses or hold a position to avoid realising a loss?
How to develop an investing plan
Your investing plan documents how you'll achieve your goals. This is largely determined by your resources, knowledge, and personality. By including things like how much capital you'll allocate to each investment, your investment horizon, and how you'll determine buying or selling points, you're creating a blueprint to identify investment opportunities.
Review your finances
You can get started with relatively little, but investing small amounts regularly is the key to growing your money. To do this, you've got to be clear of your financial position.
Write down all your debts and everything you own. Remember, the average stock market return over a 10-year period is 7.8%, so you should prioritise getting rid of high interest debts.
Next, create a budget to show how much money is coming in and going out. This enables you to determine how much to set aside each month for investing and identify ways to improve your cash flow.
Define your financial goals
We've talked about long-term investing goals, but it's also important to identify other financial goals.
For example, you might want to save over the next two years for an overseas holiday or an emergency fund to cover unexpected costs. These short-term financial goals are better matched with lower-risk investments that protect your capital, like a savings account or certificate of deposit.
If your goal is to accumulate a deposit for a house or start a business in five years' time, then a mix of investments including savings, bonds, and exchange-traded funds (or ETFs) might be helpful to reach those medium-term goals.
Although share market returns tend to grow over time, prices are volatile in the short term, making shares more suitable for meeting long-term financial objectives.
Understand investment risks
As an investor, you need to be aware of your risk appetite because the right investment is one that achieves your desired return for an acceptable level of risk. Despite the potential for higher returns, shares come with a greater chance of losing money. You need to be comfortable with this before investing.
The value of your investment can go up or down based on factors like interest rate and currency movements, economic changes, sector-related events, and company specific factors.
While you can lower investment risks by diversifying into different industries and asset categories, you can't eliminate them altogether.
Research your investment options
Finding the best shares to meet your investment goals require research and analysis. It may also be helpful to read share prospectuses, company annual reports, and analyst recommendations if available.
You'll need to understand the company's current financial health and future growth prospects. Try to keep an eye on the overall economy too, and other factors that influence the share market.
Decide whether you would like a full-brokerage service where the broker advises you on what to buy and sell, and does the trading for you. Remember, this is your future. So even with the help of an expert, you'll still need to have enough knowledge about the investments they recommend to figure out whether they're right for you.
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