What do you do before you get into your car and drive to a destination you’ve never visited before? Unless you have one of those newfangled GPS devices, you probably use the tried-and-true method of trip planning — you consult a map.
Investing is a lot like driving. You need to set your financial goals, and then you need to map out a plan to achieve them. If you don’t have goals, how will you ever know if you’ve arrived? And without a financial plan, you risk getting lost along the way, and never meeting your objectives.
Identifying Your Goals
So what are your financial goals? Here’s a tip: "making a lot of money fast in the market" is not a reasonable goal. We’re talking about your hopes and dreams, for yourself and your family. What do you hope to achieve in life? Financial professionals often counsel investors to write down their goals. Their intention isn’t to make you ponder the meaning of life, but to help you create the best plan to reach those goals along the way.
There’s another benefit that comes from identifying your goals. Saving and investing just for the sake of getting rich might work for some people. For others, though, giving up $50 a week can put a strain on their wallets — until they look at a photo of their children and remember that the $50 they’re investing now will go a long way toward helping pay their kids’ college tuitions.
Keeping your goals in mind, whether it’s that dream house in the mountains, early retirement, getting out of debt, or quitting your job to start your own business, can make the task of reaching those goals much easier.
Learning to Pay Yourself First
After you identify your goals and how much you need to reach them, you need to begin setting aside money on a regular basis to invest in your plan. Saving on a regular basis is key to reaching your goals, no matter how little the amount you start out investing. Don’t be discouraged if your goal seems large and unreachable — remember that a leaky faucet can fill your sink with water, drop by drop. Making investments on a regular basis, even if you can only set aside a small amount each month, can eventually build a sizeable portfolio.
Many people think that they can’t spare any cash to start an investing plan. These people haven’t learned the importance of paying yourself first. When you pay yourself first, you set aside a small amount for your long-term investing plan each week or each month before you pay any other bills or expenses.
But there’s an even easier way to make sure you pay yourself first each month. ShareBuilder will let you set up automatic transfers from your checking or savings account. Each month, the amount you specify will be moved from your bank to your ShareBuilder Account so it can be invested in the stocks you chose.
The Importance of Diversification
One of the basic principles of portfolio building is diversification. As the old saying goes, "Don’t put all your eggs in one basket." You can mitigate the risk of investing by spreading out your investments. For instance, if you invest in an umbrella company, you’ll do fine during the rainy season, but what happens when the sun shines? If you also invest in a company that makes suntan lotion, then part of your portfolio can do well during both rainy and sunny times.
You can diversify your portfolio by choosing different types of investments — such as stocks or bonds (known as asset classes) — or by investing in different securities within one of those categories — such as buying stocks that are involved in different businesses.
Setting Your Asset Allocation
One way that investors diversify their portfolios is by placing a certain percentage in different types of investments, such as stocks, bonds, cash, real estate, or gold. These are all examples of asset classes — broad groups of investments that may tend to perform in the same general way or differently during similar economic conditions.
ShareBuilder’s PortfolioBuilder can help you build a personalized portfolio. Just sign on to your ShareBuilder account and answer a few questions about your goals and investing style. PortfolioBuilder will recommend a portfolio of ETFs based on your answers.
Building a Diversified Portfolio of Stocks
Investing in individual stocks allows you to put your money exactly where you want to, in the stocks you’ve identified as having the best opportunities for making a profit. But diversification is even more important when you invest directly in stocks.
If you invest in a single stock, your return depends solely on that security. If the stock does well, your portfolio will prosper. If that security flops, your portfolio will as well. Likewise, if you invest solely in companies in the same industry, such as technology, your portfolio would suffer in the event of a major downturn in that industry.
When you build a diversified portfolio of stocks, you should aim to include stocks from different industries. (You might choose stocks from a computer maker, a heavy- equipment manufacturer, a pharmaceutical company, and a restaurant chain.) By spreading out your investments this way, you can minimize the impact of any problems affecting a particular sector of the economy.
Another way to diversify your portfolio is by company size. In your portfolio, you might want to include small companies that are growing rapidly, mid-sized companies that are growing moderately, and large companies that are growing slowly but surely. This strategy can help leverage risk, since you won’t be concentrated in either the riskier "small-cap" stocks or the more stalwart blue chip companies.
© 2008 ShareBuilder Corporation. ShareBuilder is offered through ShareBuilder Securities Corporation, and a registered broker-dealer and member NASD/SIPC, and a subsidiary of ShareBuilder Corporation. ShareBuilder is not affiliated with Young Money. Call (800) 215-4679 with questions about ShareBuilder.