Everybody has investment goals. These goals differ depending on the purpose for the savings. Some people may be saving for a rainy-day; others buying a new home or looking to retire comfortably.
When contemplating an investment, few questions are as important as “What is your time horizon?” The answer can help decide what type of investment vehicle you should consider and, which investments to avoid. Thus, the answer to this question will indicate ‘what’ you are planning for and ‘how’ you should be planning for it. It is expected that the returns will differ depending on the time horizon of your investment.
As an investor, you will consider your time horizon by using the following scale:
- Short Term (1 -2 years)
- Medium Term (3 – 5 years)
- Long Term (5 – 20 years)
- Retirement (>20 years)
Once your time horizon has been identified, investment strategies that include a combination of fund types will be employed to obtain a balanced approach to risk and reward.
Therein lies the importance of allowing for flexibility in your financial planning.
The shorter the investment horizon, the more risk you are likely to encounter. As an investor, you may be better off finding a high-interest investment that is not exposed to price risk. However, as the duration of your investment increase, the short-term volatility will reduce and you are more likely to meet your long-term average return objective.
It is important to understand that your current investment horizon will change as time passes. If you are young, and just starting to invest for your retirement, you have decades to overcome adverse market events. . However, as you slowly build up your nest egg and approach the time that you would like to use it, the time until you need the investment shortens and so does your tolerance for volatility.
The importance of shifting goals can be seen in pension plans. It is common for these plans to be geared towards equities in their early stages as the primary objective is to build capital. As the plan gets closer to retirement age, the pension plan will tend to lean more towards fixed income investments and away from equity in an attempt to reduce volatility. Exposure to riskier sectors such as commodities or real estate will also be gradually reduced as the individual ages.
Choosing where and how to invest is a balance between the investors tolerance for time and their desired outcome.
Investors must think about their goals and how long they have to reach them as this will impact the type of investments you could consider.
Periodically revisit your goals with a financial adviser to allow them to advise and accommodate for any changes to your personal circumstances.
Starting a serious long-term savings project can be daunting, but the earlier you do it, the easier it will be to meet your goals.