All you need to know about investment planning
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- 2 of 8ImportanceIn the simplest of terms, investment planning is about jotting down what your financial goals are, and then prioitizing accrodingly. For example, if you want to invest for funding your vacation next year, don't choose an investment vehicle that has a three-year lock-in. Similarly, if you want to invest for your daughter's marriage after 10 years, don't invest in 1yr bonds for the next 10 years. Instead, choose an option that matches your investment horizon.Investment Planning is important because it helps you to derive the maximum benefit from your investments. Your success as an investor depends upon your ability to choose the right investment options. This, in turn, depends on your requirements, needs and goals. The choice of the best investment options for you will depend on your personal circumstances as well as general market conditions. For example, a good investment for a long-term retirement plan may not be a good investment for higher education expenses.In most cases, the right investment is a balance of three things:- Liquidity- Safety- Return.Investment Planning also helps you to decide upon the right investment strategy. Besides your individual requirement, your investment strategy would also depend upon your age, personal circumstances and your risk appetite. These aspects are typically taken care of during investment planning. Investment Planning further helps you to strike a balance between risk and returns. By prudent planning, it is possible to arrive at an optimal mix of risk and returns, which suits your particular needs and requirements.
- 3 of 8Making the correct choices for investmentThe best choice of investment vehicles depends a lot on how the market has been behaving, and also a lot on the personal financial status according to which investments are to be made. For example, a good investment for a long-term retirement plan may not be a good investment for higher education expenses. In most cases, the right investment is a balance of three things; Liquidity, Safety and Return.To a large extent, the choice of the right investment option will also depend upon your financial goals. For example, if you want to invest for funding your vacation next year, don't choose an investment vehicle that has a three-year lock-in. Similarly, if you want to invest for your daughter's marriage after 10 years, don't invest in 1yr bonds for the next 10 years. Instead, choose an option that matches your investment horizon.
- 4 of 8Approach to investingThe options you choose to put your money in, reflect the investment strategy you are using - whether you realize it or not. Most people adopt the following approaches:-ConservativeThese investors take only limited risk by concentrating on secure, fixed-income investments etc.ModerateSuch Investors take moderate risk by investing in mutual funds, bonds, select bluechip equity shares etc.AggressiveThese are investors who take major risk on investments in order to have high (above-average) returns like speculative or unpredictable equity shares, etc.As a matter of fact, the investment approach of an investor is directly linked to his or her ability to shoulder risk. The ability to take risks depends largely on personal circumstances and factors like age, past experiences with investing, level of responsiblility, etc.
- 5 of 8Managing RisksThe relationship between risks and returns on investments is virtually direct. Higher the risk, higher is the possibility of earning a good return. Thus, it follows that all types of investment have some form of risk attached to it. Theoretically, even 'safe' investments (such as bank deposits) are not without some element of risk. Broadly, here are the various types of risks that you might have to face as an investor.Credit RiskThe risk is that the issuer of the security will default, or not repay the principal amount. This is valid for corporate bonds etc.Liquidity RiskIf you invest in securities, stocks, bonds, you are risking their sellability. In other words, your money gets stuck unnecessarily, creating an asset-liability mismatch.Market RiskFinancial markets are volatile in nature. Volatility means sudden swings in value from high to low, or the reverse. The more volatile an investment is, the more profit or loss you can make, since there can be a big spread between what you pay and what you sell it for. But you also have to be prepared for the price to drop by the same amount. Those who invest in stocks and mutual funds typically run this risk.Interest Rate RiskDepending on the interest rate movement in the economy, the rates of interest investment instruments may go up or come down, resulting in a subsequent reverse movement of their prices. Such a scenario of economic instability might effect mutual funds etc.The whole idea behind investment planning is to evaluate the risk associated with various type of investments and take steps so as to balance it with the desired return.
- 6 of 8Simple steps of investment planningInvestment planning is something which is fundamental, and basic neccessity to having a succesful portfolio where returns meet goals. It is a scientific process, which, if done in the right sprit, can help you acheive your financial goals. Here are the basic steps of Investment Planning.Step 1 : Identify your financial needs and goalsThe starting point of a sound investment plan is to begin with a clear understanding of you financial needs and goals. Typically, any financial need or goal would translate into determining the tenure of your investment (investment horizon). All investment needs and goals can therefore be translated into short-term (less than 1 year), medium-term (more than 1 year) and long-term (more than 5 years). Here is an example of the financial goal of a typical household (a couple with two children).Step 2 : Understanding investment choicesThere are three basic investment categories: Equity, Debt and Cash. Any investment can be classified into one of these three categories, or asset classes. The key to investment success lies in understanding how each asset class performs over the various investment horizons, the choices within each category and the risks involved in making investment decisions in each of these choices.Step 3 : Decide an appropriate mix of various investment choices (Asset Allocation Plan)Making an asset allocation plan is about determining the proportion of investments in each of the three basic asset classes. Essentially this depends upon your profile as an investor. Whatever stage of life you are at, you would need to invest part of your money for security and liquidity. A part of your investments should generate regular income and part of it should contribute to growth and capital appreciation. The proportion however, will vary based on individual goals, time horizons available to meet those goals and one's risk profile (the tolerance reaction to any down turn in the stock/debt markets). The key to investment success lies in determining the appropriate mix of the above mentioned categories and not just the individual investments that are done within each category.
- 7 of 8Tackling InflationInflation, the rate at which the general level of prices for goods and services rises, can steadily erode the purchasing power of your income. That is why you should invest a portion of your savings at a rate higher than the inflation rate to recover the loss of purchasing power. This means, that the value of the rupee now or the what you can avail with a particular amount of money, will decrease over time, making everything more expensive. For: What today costs Rs 100, would perhaps cost Rs 105 or more a year from now.
- 8 of 8Compunding is the way to goNo matter what the choice of investments may be- cash, stocks, bonds, or a combination of these - the key to saving for the future is to make your money work for you. This is done through the power of compounding. Compounding investment earnings is what can make even small investments become larger, given enough time. You are probably already familiar with the principle of compounding. The money you put into a bank account earns an interest. Then, you earn interest on the money you originally put in, plus on the interest you have accumulated.As the size of your account grows, you earn interest on a bigger and bigger pool of money. The real power of compounding comes with time. The earlier you start saving, the more your money can work for you. To attain certain amount of corpus within a set period of time, a pro-active investment style is preferable. Thus, no matter how young you are, the sooner you begin saving for the future, the better it is.
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