Investing is the most effective way to make your money work for you, build wealth for yourself and your loved ones, and achieve financial freedom.
Why should you consider investing? (benefits)
Although saving is important and considered a safe strategy – offering you easy access to your money with minimal fees – investing can have much higher returns.
The reason investing can really pay off in the long run is primarily due to the power of “compounding” – when the interest you earn on a balance is reinvested, earning you more interest – and because of the “risk-return tradeoff”, an investment’s chance of producing a lower-than-expected return or even losing value, versus the amount of money you might earn.
As inflation rates continue to rise, it’s even more important to protect your earnings. Smart investing can help your personal finances outpace inflation and increase in value. In other words, it offers a better chance of growing your wealth over time, at a rate that a savings account simply cannot offer. The alternative to investing your money wisely is that it would likely decrease in value over time, or be spent.
In addition to this, there can be tax benefits to investing; you can learn more about tax-efficient investment vehicles by listening to our recent podcast, which can be accessed here.
When should you start investing?
It’s important to understand that investing is most advantageous to those who play the long game and to not expect it to bring large returns overnight. This means that the earlier you start, the better chance you’ll have at achieving true financial freedom in your lifetime. It pays to invest early and often; the beauty of compound interest is that by starting earlier you’d still come out ahead of someone who opted to start investing later in life. However, it’s never too late to start.
It’s a common misconception that people only need to start investing later in life, or when they reach a certain income level. The reality is that we tend to increase our expenses and lifestyle when we get a salary increase; and the current trend is that South Africans generally do not invest enough. According to a recent retirement industry survey (Alexander Forbes Member InsightsTM 2021), the average South African retiree can replace just 31% of their income with their retirement savings. Imagine trying to live off a third of your current income? So the need to invest for the future is quite urgent for most people.
Ready to get started?
Here is the TVC Health and Wealth Managers’ introduction to investing:
1. Manage your liquidity & invest for short, medium, and long term
First and foremost, it’s important to manage your ‘liquidity‘ – which means the amount of money you have on hand and the ability to quickly convert assets into cash where needed. If your assets are all tied up in long-term investments, you could find yourself cash-poor – which can materially reduce your ability to direct funds into any new investment opportunity that might come your way. This is why it’s important to manage your liquidity and ensure you have some funds available for immediate emergency access if needed.
You can manage this by thinking about your investment in terms of short-term, medium-term, and long-term, in line with your goals. As mentioned, the longer you invest for, the more you can reap the rewards – but consider that these funds will not be able to be accessed for some time. Plan according to the time sensitivity of each goal and how quickly you seek to access the initial capital.
An example of a short-term investment (a one-to-two-year time horizon) might be a holiday trip or a new car, in which case you would opt for lower-risk investments with potentially lower gains. ‘Medium-term’ (3-to-5-year time horizon) might include saving for a deposit on a house, and here you can afford to ride out some market volatility in exchange for a higher return, but you’ll still want your money to be relatively accessible. For long-term investments, with a goal like retirement (30 to 40 years into the future), you have time to make your money work for you while benefiting from compound interest, as well as the opportunity to diversify your portfolio.
Without having funds available for emergencies (like sudden unemployment), you risk derailing your entire financial plan. Usually, smart investors put enough money in a savings product – like a 32-day fixed deposit and Unit Trust Investment – so that they’re covered for about three to six months’ worth of expenses in case of a rainy day.
2. Understand asset classes
There are a lot of different things you can invest in – from property to cash, even metals and industry – and we call these ‘asset classes’. The technical definition of an asset class is a grouping of investments that exhibit similar characteristics and are subject to the same laws and regulations. There are several different asset classes, but for individual investors, the most important ones to know about are equities, bonds, cash, and alternatives. It’s important to understand the different asset classes and the risks associated with them.
Below we break down a few, but you can read more about the different asset classes in a past blog post we published dedicated to the topic here or talk to one of our Certified Financial Planners (CFP®) for professional advice on which asset classes to invest in.
- “Equities” – When you buy equities, you are literally buying part of a business, and becoming a co-owner, or shareholder, of that particular firm. The returns you get come in two forms: any increase in the share price, and your share of the profits the business makes, called dividends. The risk associated with this type of investment is that if the firm goes bankrupt, you’re close to the end of the line when it comes to being repaid as a shareholder. Equities are considered riskier than bonds (explained below), but they do generally deliver higher returns over time.
- “Bonds” – When you buy bonds, you’re effectively lending money. There are two types of bonds: a Government Bond, which means you lend money to a government agency, and a Corporate Bond, which is money lent to a business. Your returns would come in the form of interest received on your loan. While this locked-in interest rate may seem safer, there is still some risk; if inflation or short-term interest rates go up during the ‘period to maturity’, the investor will lose out.
3. Where should you spend your money
Now that you understand the benefits of investing, and have schooled up on how best to approach it, where should you get started in investing your hard-earned money? Ultimately, it’s best to consult with a professional, Certified Financial Planner (CFP®) when it comes to getting the most out of your investment portfolio.
Investing offshore – which means keeping your money in a jurisdiction other than one’s country of residence – can be considered a great diversifier. This can hep you hedge against the impact of the exchange rate, which is a useful consideration if you live in a country like South Africa where the currency is somewhat weak compared to other markets and may fluctuate according economic disruption.
When exchange rates change, the prices of imported goods change in value, and investment performance is also impacted thanks to interest rates and inflation.
Nonetheless, when it comes to offshore investments, if you don’t actually spend in an alternative currency (say US Dollars, Euros, or the Great British Pound), you are adding currency risk to your portfolio. This is because your purchasing power should be measured in the currency that you do most of your purchasing in. Example: if you live in South Africa and spend more of your time and money here, your purchasing power should be measured in Rands. Exposure to another currency can be seen as an opportunity, but it’s important to be wary of currency volatility and risk, especially when investors are reliant on funds for income needs within South Africa.
If you’re interested in off-shore investments, you can read more about it in our past blog post here.
4. Recommended: Goal-based investing
Here at TVC Health and Wealth Managers, we recommend a goal-based approach to investing. An individual’s goals usually depend on a host of factors that may include age, income, and risk profiles. Consider what do you want to achieve in life and what kind of life do you want to create for yourself. What is a priority for you to work towards? For example, family planning can have a big influence on your financial goals.
After blue sky thinking, base your financial roadmap on an honest evaluation of your earnings and expenses. Income provides the natural starting point for investment goals because you can’t invest what you don’t have.
Once you’ve established your goals, consider how your finances should support them. Allocate an investment for each goal, with careful consideration to align factors like liquidity, asset classes, risk, currency, and potential return. Consider also that as your goals and circumstances change, you will need to adapt your investment portfolio.
Here at TVC Health and Wealth Managers we take a SMART approach to goal-based investing:
- Specific – make each goal clear and specific
- Measurable – frame each goal so that you know when you have achieved it
- Achievable – you need to take practical action to achieve a goal
- Relevant – determine whether your goals relate to your life and are realistic
- Time-based – assign a timeframe to each goal so you can track progress
We hope that this blog post helped to shed some light on an introduction to investing. By now you should have a better understanding of the benefits of investing, a basic understanding of what you can invest in, what liquidity is and why it’s important, and why goals (whether short-term, medium-term or long-term) are a key consideration to your investment portfolio. With time, you will find your investment style, which is also influenced by your appetite for risk.
Contact us today for assistance on getting started on your investment journey or to improve your existing investment portfolio. Matching your goals with appropriate investment and financial solutions is something we pride ourselves in at TVC Wealth and Health Managers, and our financial planners can also advise on options such as tax-free investments and investment fund opportunities.
Anything else you’d like to learn about investing or personal finance? Drop us a line!