11 Steps to Investing
This article starts below.
- 11 Steps to Investing
- 1. Control unnecessary expenses.
- 2. Pay off personal debt.
- 3. Save for regular expenses.
- 4. Start an emergency fund.
- 5. Invest for the future.
- 6. Compute your investable fund.
- 7. Know your investment horizon.
- 8. Make an asset allocation.
- 9. Choose between individual stocks/bonds and mutual funds.
- 10. Apply cost averaging.
- 11. Re-assess your portfolio yearly.
Sound investments begin with rational expenses. Unnecessary expenses reduce the funds available for investing. They may also increase personal debt, with its expensive interest. Controlling unnecessary expenses is the key to successful investing.
Interest on credit card debt is around 4% per month, or 48% per year! If you have money in a savings account earning 0.5% a year, you're better off using the money to pay the debt. You would have saved the hefty interest payment. Interest on personal debt zaps away profits from investments.
Foreseen expenses like next year's tuition fees can be funded by setting aside a fixed amount monthly that will add up to the full amount when paying season comes. Saving for regular expenses protects you from redeeming your investments at a loss.
Before you begin investing, make sure you have 6-12 month's worth of your monthly expenses stacked safely as an emergency fund. Money in this fund may be used for unexpected expenses like repairs and hospitalization and allows you to keep your investments untouched during emergencies.
Only after controlling your unnecessary expenses, paying off personal debt, saving for regular expenses and completing an emergency fund could you safely and effectively go into financial investments like stocks, bonds and mutual funds.
Sum up your cash, savings, and time-deposit accounts. Be careful that you don't include the money for number 3 and 4 above (money for the regular expenses and emergency fund). The total you get is the money that's available for your investments.
How long can your keep your money invested? Can you afford to remain invested for a year without redeeming your investment? For five years? For ten? The longer your investment horizon, the greater the number of investment options and the higher the potential returns.
For the money that you can afford to invest for more than 5 years, determine your asset allocation. What percentage should go to stocks? To bonds? A rule of thumb is to subtract your age from 100. The number you get is your percent allocation for stocks (i.e., age 40, 60% stock allocation).
Having known your asset allocation, decide if you want to pick individual stocks and bonds or go the simpler route of going for mutual funds invested in stocks or bonds. Buying individual stocks give you more control over your stock portfolio. Investing in stock mutual funds gives you less headaches.
The allocation for stocks is best invested by cost averaging, or buying a fixed amount of stocks or stock mutual fund at regular intervals (weekly, monthly or quarterly), until you have invested the entire stock allocation. This way, you can decrease the risk from the fluctuations of the market.
About once a year, compute the present value of your investments and check the percentage placed in stocks and bonds. Rebalance your investment if the current asset allocation is off by more than 10% of your desired allocation.