In difficult financial times history shows us that people are always tempted into investing in schemes that promises high rates of return on capital, and above average profit margins, which in many cases exceed what can be considered reasonable and fair market value. This is not to say that good investment vehicles and investment opportunities don’t exist, but rather that, in tough economic times, people tend to be more susceptible to flagrant promises of unparalleled profits and payouts. I wrote extensively on how to spot such investment scams in a previous blog post, which you can read here.
A random video search on some of the countless investment videos by Warren Buffet, some dating as far back as the seventies and eighties, will quickly give you a snapshot of what can be considered to be good investment advice. Fundamentally good investment principles and methodologies of making money, remains stable and fairly unchanged. These methodologies ring as true today as they did many years ago and have stood the test of time.
One prime example of a good investment principle is to make sure you have a personal financial plan. But what exactly is a financial plan, and how do you create one?
In this two-part blog series, I will unpack this question in greater detail and create a framework to assist you to define your personal financial goals and to ask yourself a number of critical questions to achieve greater clarity of where you wish to take your financial future. In our diverse world today, although investment principles have remained the same, people’s individuality and preferences certainly have not!
A random video search on some of the countless investment videos by Warren Buffet, some dating as far back as the seventies and eighties, will quickly give you a snapshot of what can be considered to be good investment advice. Fundamentally good investment principles and methodologies of making money, remains stable and fairly unchanged. These methodologies ring as true today as they did many years ago and have stood the test of time.
One prime example of a good investment principle is to make sure you have a personal financial plan. But what exactly is a financial plan, and how do you create one?
In this two-part blog series, I will unpack this question in greater detail and create a framework to assist you to define your personal financial goals and to ask yourself a number of critical questions to achieve greater clarity of where you wish to take your financial future. In our diverse world today, although investment principles have remained the same, people’s individuality and preferences certainly have not!
ONE ROAD – TWO DESTINATIONS
Essentially a financial plan is a practical step-by-step plan, on how to manage your available funds, to achieve specific financial goals and, measured against a pre-determined time frame. At this point it’s important to note that while we travel along one road we need to try and achieve two important outcomes namely; wealth creation and, ensuring financial continuity. We will just look at these two concepts briefly.
Wealth creation is the process of using your total income (which can be made up of a salary, interest on investments, emoluments, profits, bonuses, inheritance, and many other sources of revenue), and investing a portion thereof by means of a range of tools and instruments, to create an ideal lifestyle and to realise a personal dream and vision.
Financial continuity is the process of creating a realistic number of real-life “what-if” scenarios and securing financial continuity accordingly. This is done to ensure that, those left behind in case of an unanticipated death, serious personal injury, unexpected or sudden loss of income, are looked after and that the originally planned legacy is continued to the next generation.
But how can we achieve these two critical outcomes? In this article we will focus our discussion specifically on wealth creation, and how this is achieved with our personal and systematic approach.
What is a systematic approach to wealth creation? In simple terms; it’s a process of discussing seven key components and asking a range of pertinent questions at each of these components.
The very first step is to be clear about what exactly you consider to be your ideal financial dream scenario. Clients often think they know until they have to create a clear picture for themselves about what this entails.
You should be clear, at the onset, irrespective of which investment tool, instrument, product, or vehicle you and your financial planner select, about the following two questions:
• How does this (any) particular investment fit into your overall portfolio?
• What do you want this investment to do for you?
If you earned R 1 000 000 per month, it would be fairly easy to create a substantial investment portfolio in no time. On the contrary that plan would look completely different if you earned R 15 000 per month.
Income matters, and without a realistic view of what you have available to spend per month, it is almost impossible to go to the next step in the process.
A proper cashflow analysis of all your income and expenses will give you a clear indication of the available amounts. This amount will then form the starting point of the wealth plan development process.
The next important step is to understand your own investment personality. This is not simply to be skimmed over as just another step. Your investment personality plays a vital role in the kind of investment products your financial planner will select, and which will appeal to you. Where couples are involved, it may very well be that each party to the relationship may have fundamentally different investment personalities, and investment approaches.
We make use of the FINAMETRICA® Risk Tolerance Questionnaire to determine your investment personality. Here we seek to find answers to questions such as:
• What is your investment return expectation?
• What is your capacity for risk?
• What is your risk tolerance?
• How do you feel about money and investments in general?
There is a strong possibility that there will be a difference between your current financial (investment) position, and where you ideally need to be. To bring these two scenarios closer together will require time and funds.
Depending on your desired comfort levels, it may be possible to free-up a monthly investment amount, but no amount of money will expedite the rate at which your investment will grow in value; this will require patience and a realistic expectation of the investments selected.
If our analysis reveals a significant gap, then we need to answer the following pressing questions:
• Do we take on more risk?
• Do we invest more capital?
• Do we adjust your goal?
At this juncture, we now possess a good enough understanding of a number of important things such as your life goals, your investment personality, your available funds and more or less how far we are from our intended investment target.
Next, we need to select an appropriate investment vehicle taking into consideration things like tax efficiency, administrative support, value for money, market comparisons and so forth.
But how can we achieve these two critical outcomes? In this article we will focus our discussion specifically on wealth creation, and how this is achieved with our personal and systematic approach.
TAKING A SYSTEMATIC APPROACH ON WEALTH CREATION
What is a systematic approach to wealth creation? In simple terms; it’s a process of discussing seven key components and asking a range of pertinent questions at each of these components.
1. What are your financial dreams?
The very first step is to be clear about what exactly you consider to be your ideal financial dream scenario. Clients often think they know until they have to create a clear picture for themselves about what this entails.
You should be clear, at the onset, irrespective of which investment tool, instrument, product, or vehicle you and your financial planner select, about the following two questions:
• How does this (any) particular investment fit into your overall portfolio?
• What do you want this investment to do for you?
2. How do you get to your goal?
If you earned R 1 000 000 per month, it would be fairly easy to create a substantial investment portfolio in no time. On the contrary that plan would look completely different if you earned R 15 000 per month.
Income matters, and without a realistic view of what you have available to spend per month, it is almost impossible to go to the next step in the process.
A proper cashflow analysis of all your income and expenses will give you a clear indication of the available amounts. This amount will then form the starting point of the wealth plan development process.
3. How do you feel about money and risk?
The next important step is to understand your own investment personality. This is not simply to be skimmed over as just another step. Your investment personality plays a vital role in the kind of investment products your financial planner will select, and which will appeal to you. Where couples are involved, it may very well be that each party to the relationship may have fundamentally different investment personalities, and investment approaches.
We make use of the FINAMETRICA® Risk Tolerance Questionnaire to determine your investment personality. Here we seek to find answers to questions such as:
• What is your investment return expectation?
• What is your capacity for risk?
• What is your risk tolerance?
• How do you feel about money and investments in general?
4. How do we bridge the gap?
There is a strong possibility that there will be a difference between your current financial (investment) position, and where you ideally need to be. To bring these two scenarios closer together will require time and funds.
Depending on your desired comfort levels, it may be possible to free-up a monthly investment amount, but no amount of money will expedite the rate at which your investment will grow in value; this will require patience and a realistic expectation of the investments selected.
If our analysis reveals a significant gap, then we need to answer the following pressing questions:
• Do we take on more risk?
• Do we invest more capital?
• Do we adjust your goal?
5. Selecting an investment vehicle?
At this juncture, we now possess a good enough understanding of a number of important things such as your life goals, your investment personality, your available funds and more or less how far we are from our intended investment target.
Next, we need to select an appropriate investment vehicle taking into consideration things like tax efficiency, administrative support, value for money, market comparisons and so forth.
6. Selecting the funds with the correct asset balance.
The vast majority of investment products are closely tied to investment funds. We are fortunate that within the South African landscape we have a multitude of successful investment funds to choose from.
What are looking for is an investment fund that meets our client’s growth and defensive asset ratio (essentially a fund with a good balance between low and high yield assets). In principle growth assets tend to have higher volatility but deliver higher returns over the long terms, at opposite ends, defensive assets are generally providing a more steady income stream but with a lower investment risk and lower returns.
The main task of the financial planner at this stage of the process is to find the appropriate balance, based on the client’s unique goals, investment risk profile and available funds.
7. Review and Rebalancing
A financial plan, like most long-term projects in our lives (think about obtaining a degree, raising kids, paying off a property bond and many more), requires from us to regularly assess and evaluate where we stand, and if we are tracking our goals and time lines.
The same applies to our investment plan and forms a critical part of the financial planning value proposition. The continued monitoring of investments and managing and coaching our clients through cyclical market fluctuations will be some of the most prominent contributing factors to their investment success and wellbeing.
Undeniably, life also happens, and things can quickly change, as we know all too well. While we tend to always think about negative outcomes, there are also positive changes, such as career success (meaning higher-paying promotional opportunities, good returns on previous investments made, profitable business ventures and so forth). In such instances it is also critical to adjust the financial plans accordingly.
CLOSING REMARKS
Clearly, a well-developed financial plan addresses both the creation of wealth, as a first main step, and secondly, secures financial continuity. The first step mainly deals with bringing about a specific lifestyle, realizing a dream, or achieving a goal, with the influx of current funds and earnings, while the second, deals with leaving a legacy. We will deal with financial continuity as a step towards leaving a legacy, in the second part (Part 2 of 2) of this two-part blog series.
It should be fairly evident by now, that a financial plan is, first and foremost, created around real people with real dreams, wishes and aspirations. The task of the financial planner is to develop a client’s portfolio in such a way that it encompasses all the tools, instruments, and products necessary to create a balanced portfolio.
Truly gone are the days where a client’s portfolio and financial plan is only a carefully selected summary of insurance products with high premiums, low payouts, and abundant sales commissions.
Instead, the new era of financial planning requires the Financial Planner to play a pivotal role in providing clients with sound financial coaching, realistic scenario planning and financial wisdom to create a well-balanced financial strategy, which is regularly measured and evaluated against defined financial goals.
A sound financial plan involves many pertinent questions, actions, discussions, and moving parts, but, most of all, it involves the main character of the story – you.