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Thursday, December 14, 2017
Article written by Jamie Wu

Stock Market Excitement Is Not Exclusive of Wise Investing

Stock market investments based on individual stock picks are usually associated with risky bets, and a lot of effort is put into educating investors on how to plan for the long term instead. Although long term planning is important, it does not necessarily exclude the joys of seeing its stock portfolio outperform the market. But how to reconcile these conflicting schools of thought?

On the one hand, you are living in the now and quick gains are a fantastic source of instant gratification. On the other hand, having lived in a city your entire life, you probably donít see yourself moving into the outback to live the Ďsimple lifeí, hence the need for a reliable pension plan.

This sounds very much like identifying needs and wants, however, the needs are far away in the future compared to the actual wants.

Our solution to this dilemma includes two components. First, split up your horizon into long term, mid term and short term. Secondly, as the needs obviously should receive a higher priority, start with the long term goals, then the mid term goals to finally look at the short term part.

Taking into account that you do care for your long term planning and that you donít want to see yourself with no retirement benefits, the first step is to identify your needs for your retirement. This means estimating roughly how much you will need monthly once retired. Calculators tell you how much you need to invest in a pension plan every month.

Pension plans rely on an important concept: low risk investments. If you start saving 30 years in advance for your retirement, it means it has to be really important to you, and rightly so! Ideally, you want a guaranteed return equal to the retirement package you calculated, certainly not less. Pension plan investments therefore translates into investing in bonds and other products with a strong track record.

Next, your mid term goals. These goals could, for example, consist of saving for a property or money to start your own business a few years down the line. Obviously, the sooner you can achieve your goals the better, so you wonít let your money sit in a bank account being eroded away by inflation. You are ready to invest in financial products that give you hope for an unplanned upside at the cost of a potential downside. The ideal products are therefore identified as having the right mix between fixed income and expected capital gain: market indices, Exchange Traded Funds, corporate bonds and unit trusts.

Finally, the fun part! Once you divided your savings into portions going to long term and mid term goals, what is left can be used for more exciting investments focusing on pure capital gains or stock price increases. Picking the right stocks based on individual company analysis and portfolio balancing is an art, and certainly a great source of joy when the portfolio outperforms the market.

As a conclusion, when planning for the future, there are always two driving components that are not well assessed. The first component consists of identifying the needs and wants independently of the time factor. The investments to achieve the needs are low risk investments, whereas the wants can be met with risky assets.

The second component is then allocating the amount of savings to each goal based on the time horizon. The further away in the future, the less amount of money to be dedicated to it based on the time value of money.

An investor that can balance these different aspects of investing will enjoy both long term security and short term excitements.
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