How To Create A Solid Investment Plan

by Silicon Valley Blogger on 2012-04-3025

What kind of investment plan or types of investments should the average person own?

For many avowed spenders, the concept of risking money and hoping that it grows for use in the future is very foreign. In fact, some people think that “investing” boils down to playing the blackjack tables in Vegas. But a lot of folks don’t realize that what they’ve been doing for years are actually already forms of investment.

One thing that I’ve done to get started with investing was to first determine what kind of risk profile I had (I’m moderately aggressive, by the way). Once you know what you’re comfortable with, you can decide on what kind of mix of stocks, bonds and other assets that you can stick with for the long haul, without flipping out during rocky market periods.


Some who’ve expressed concern over steep one day stock market drops have asked me what they should do during such volatile periods. Some wonder whether it’s a good time to buy and others wonder whether they should sell. The key is to have an investment plan that won’t make you wonder so much when the economic climate and markets are shifting.

Here are some tips on how I’ve handled my own investments.

7 Tips To Create An Investment Plan

#1 Do not react to the market. Be proactive instead.
Make your investment moves before any major market action takes place. It’s best to have a good plan on paper before executing it, and it’s best to execute it during a time when the market isn’t dancing around wildly. Get the answers to these questions before you invest and make it a part of your plan:

Replies to these questions can help point you to the right types of investments. Anticipate some possible market moves and know what you’ll do before something big happens!

#2 Take investment positions in your portfolio when the market is stable or depressed.
Whenever I build a position in my portfolio, I always try to do so when the market is level or weaker. I prefer not to buy during stronger or hotter periods and I try not to chase returns. That isn’t to say that buying while the market is going on strong is a bad thing or even a wrong move since momentum can certainly take you far. In the long run, it may not hurt you to buy during an upswing. But I tend to be a contrarian and I like capitalizing on weakness, where there could be more opportunity. Others may disagree with me but this is what I’m comfortable doing. You can certainly make money using different investing styles, and I’ve so far stuck with what’s worked for me.

#3 Decide where you’re going to put the money. Hint: KISS (as the saying goes: keep it simple and stupid). If you consider yourself a small investor (most of us do) who does their investing on the side, then there’s no point in spending hours upon hours hand-picking stocks and bonds to build your portfolio unless of course, you enjoy the process. Instead, determine your needs and find a mutual fund, or set of funds, that fits those needs.

#4 Create a core diversified portfolio.
Let’s elaborate further. Build a strong foundation for your investments by creating a diversified portfolio of your core holdings. You can do this by assembling your own portfolio by choosing mutual funds and ETFs across various conventional asset classes such as equities, bonds and cash. Figure out what types of asset classes you’d like represented and what percentages they should represent in your mix. Such a portfolio needs to be in line with your risk profile so you can sleep well and be assured you’re doing the right thing.

Tip: Settle on some good fund families with experienced managers and purchase shares in their funds. Key points to look for: low fees, consistent performance history, and a management company that is strong on service. Take note of the management style, tax ramifications, and actual securities in the funds you consider. I personally like Vanguard, but I’ve got a friend that swears by T. Rowe Price. You can also find index funds available through an online broker.

#5 Add some ooomph to your portfolio.
Maybe you need to try some hedging techniques. Maybe you need to develop a portfolio that includes alternative asset classes to add more diversification. This can be achieved by adding negatively correlated asset classes to your mix. You may need some expert help when trying this out, so research and learning are key when you’ve decided to go this route. You can start by reviewing material from educational investment sites to learn how to tackle investments beyond the standard equity/bond combinations.

#6 If you’d rather not create or self-manage your own portfolio, buy into a preassembled one. There’s quite a number of mutual funds out there that can be considered as “one stop shops”. The purpose of such funds is to try to take the guesswork out of selecting diversified investments by keeping strict allocations that in some cases, conform to targeted timelines (depending on the type of fund they are). Some examples are:

However by settling on such funds, you lose flexibility and control over your investments for by definition, the funds do their portfolio shifting on their own. So be aware of these caveats when buying into these funds; remember that you’re buying convenience and hiring someone else to worry about your allocations for you.

#7 Determine how much “extra” you have to invest. Do you have extra cash in your bank account or credit union? Do you have more money than you really need to keep on hand to cover emergencies? Take the excess and make an initial lump sum investment with an investment house or brokerage. Then, determine how much you can invest out of every paycheck. Even if it’s only $25 or $50 every couple of weeks, starting now will help you to get in the habit of putting money away regularly. As your income grows, increase the amount that you regularly sock away.

First Things First: Investment Ideas For The Everyday Investor

Now let’s go into some specifics. Aside from building your own investment portfolio, what are some investment moves you should be making today (if you haven’t already)? A lot of people have access to these types of investments through their employer or have the kind of goals that merit the use of certain investment accounts.

  • Get the 4-1-1 on your 401(k). Don’t overlook the obvious. If your employer offers any sort of match for 401(k) contributions, try your best to take full advantage of that benefit before looking to other investment options. To not do so is to let money slip away. Plus, because 401(k) contributions are made from pre-tax earnings, you reduce your taxable income by the amount you contribute. Would you rather invest your money for your future, or hand it over to Uncle Sam so that it can fund more swank parties at AIG?

    Tip: If you decide to leave your employer, think of moving your 401(k) money to a rollover IRA, where you’ll have more control over your funds. Where to start? Check our list of best online brokers with reasonable commission rates and great resources for investment learning.
  • Don’t forget the tax benefits of a good old IRA. You can further reduce your taxable income by putting your money into an IRA. The maximum IRA contribution for 2012 is $5,000 for people age 49 and younger and $6,000 for people age 50 and older.
  • Invest in your child’s future with a 529 account. Setting up and regularly contributing to a 529 college savings plan for your kids as quickly as they can be legally counted on a census will not only help to buffer the pain of tuition costs for you when they hit college age, but will also allow them to avoid at least some college debt, giving them a nice head start into a financially secure adulthood.
  • Buy a house. Do you own your home? If yes, you’re a real estate investor. Your home is a valuable asset and is subject to all sorts of market risk, as Americans who face foreclosure can attest. If you’re not already a homeowner, then consider snapping up a wonderful home when markets are weaker. Live in your home for as long as you can, make improvements as needed, and don’t touch any equity that you build (Repeat after me: My home is not an ATM machine.). When retirement rolls around, you should be able to sell your little slice of paradise and buy a new slice of paradise in a tropical location for cash. Theoretically, of course.

When you’re ready to put your money to work, know that there are dozens of options for investment houses out there, and some even offer sign-up bonuses for new customers (check these online stock trading promotions for more information — and no, you need not be an active trader to receive a bonus). There’s nothing better than free money! Except, perhaps, knowing that you will be OK in your golden years, with or without Social Security.

With these ideas, you should be on your way to starting your own investment plan. The bottom line? Have that plan BEFORE you make your moves or dip your toes in the market so that once the market behaves like a wild beast, you’ll know how to ride it.

Created January 5, 2010. Updated April 30, 2012. Copyright © 2012 The Digerati Life. All Rights Reserved.

{ 25 comments… read them below or add one }

Erica Douglass January 6, 2010 at 1:28 am

Repeat after me: Owning your primary residence is NOT an investment!

This chart should help you

-Erica

Silicon Valley Blogger January 6, 2010 at 2:08 am

Erica

Do you mean owning your primary residence should never be considered an investment or just not a good investment today because of high real estate prices?

To me, an investment is something I put money in, expecting a return at a later time. You either get something back or you don’t. The term “investment” can even loosely and foolishly be applied to the lottery but there’s something else you call it — gambling. The thing is, the term “investment” is loosely applied to many things — including the education I’ve paid for to ensure that I have a career later on.

I agree it’s not the best or most efficient way to build wealth, but depending on your circumstances, buying a house may be a better financial option than renting (say if you stay in your home for a long time or you bought at a truly low price point). In my case, it will be. So as far as making money goes, I expect to come out ahead. But I would encourage anyone who’s trying to decide whether they should buy a house — figure out whether it makes sense to rent or buy. I wrote about it here.

kenyantykoon January 6, 2010 at 7:09 am

You should have added that people should invest in their finance education this year and move from speculation to real value investing. That is one of my goals this year.

Rob Bennett January 6, 2010 at 7:37 am

My life experience is that it is the basics that matter most. If you get the basics right, everything else will sooner or later follow. If you don’t, you are doomed. Too often people direct huge amounts of effort to trying to understand details of a subject when what they need is to go over and basics again and again and again.

The basic that I would stress in investing is that — valuations matter. The valuation level for stocks is the price tag for stocks. The price tag matters for everything you buy. Including stocks.

If you get that, I really think you cannot lose because stocks offer such a great long-term value proposition. Unfortunately, the idea that investors should consider valuations when setting their stock allocations has become “controversial” in the Buy-and-Hold Era.

Rob

Goran Web Design January 6, 2010 at 9:24 am

Without a doubt the most important first step is to just do it! Put away that little bit on a regualr basis and you’ll soon be surprised as to how quickly those little bits start adding up. Just get into the groove, and you’ll soon be wondering what has taken you so long!

Don@MoneyReasons January 6, 2010 at 10:06 am

I agree with every one of your statements, and actually that’s what I did over the years and when I started out…

Although instead of the traditional IRA, I opened a Roth IRA.

I wish I were buying a primary house today (since they are cheap, and have generous tax credits if you are a first time buyer), instead of 10 years ago. I’d rather build equity in a house instead of renting (the only exception to this is if you plan to leave the area in 5 years). Oh well, at least my house will be paid off next month… :)

Ken January 6, 2010 at 7:35 pm

I like your KISS analogy. If you’re a beginner, stock mutual funds are a good choice and less risky than buying stocks individually. I would also advise a beginner investor to educate themselves about investments. You shouldn’t invest in something you don’t understand. Good Post.

Craig January 7, 2010 at 10:03 am

I have gotten started with my IRA at Vanguard and agree I like them as well.

Griff January 7, 2010 at 4:19 pm

Yeah, investing is very complex… but then again, it’s only complex because there are so many choices!

When it comes down to it, you simply need to find solid funds and stick with it for a few decades. The market will go up and down, but eventually (as history has shown) you will end up with about an 8% return per year. No telling what the future will do, but I’m at least investing my money in some index fund or lifecycle funds in order to keep up with future inflation.

Good luck to everyone investing! Thanks for the great post!

Bret January 18, 2010 at 4:51 pm

@Erica,

I disagree with you, chart or no chart.

Owning your own home CAN be a great investment if you purchase wisely. It can also be a poor investment, if purchased unwisely. A house is a real asset, which acts as a hedge against inflation, gets preferential tax treatment and can take advantage of leverage. Plus, your family can live in it.

I have been investing for 25 years and my house has been the single best investment I have made. Five or six years from now, when my house is paid off, it is going to seem like a phenomenal investment. My results aren’t typical, because I bough my house with one month of the market low in ’96. But, my house still would have been a great investment, even if I had bought it for much more.

Bret

Luis March 17, 2010 at 7:00 pm

I have a very a simple problem with this article: it’s aimed at beginners, but it mentions online brokers with “reasonable commission rates,” without emphasizing the simple and important fact that you can invest directly with Vanguard without paying any commission rates on anything. The only the expenses there are (a) fund expense ratios, (b) paper statements delivery (waived if you opt for electronic statements), and (c) low-balance fees.

frugal zeitgeist March 22, 2010 at 4:25 pm

#2 sounds a little like contrarian market timing to me; I never felt comfortable with that, so I tend to spread risk out by dollar-cost averaging. What’s your take on that approach?

limeade March 22, 2010 at 5:34 pm

Most of what’s said is pretty standard personal finance wisdom; however, it’s all focused on stocks, bonds, mutual funds and the like. I would just like to mention that these are not the only things you invest in.

I’d suggest that before you try and decide what you’d like to invest in, first determine what an investment is. I’d submit that an investment is anything that lets your money earn more money for you. This can be through stocks, bonds, mutual funds, real estate, or even a vending machine business.

I just don’t think we should limit ourselves to stocks and bonds. Try to think outside the box a little and you’d be amazed with what happens.

-limeade
http://fiscalmusings.blogspot.com

Silicon Valley Blogger March 22, 2010 at 9:18 pm

Thanks limeade,
#5 should take care of the other asset classes and thinking outside of the box. At least, that’s what I wanted to impart. Anything that negatively correlates to stocks/bonds and the usual conventional investments would be great to add to your plan.

John Corey March 23, 2010 at 1:35 pm

Early in the article is the statement “can possibly stick with a solid mix of stocks and bonds without flipping out during rocky market periods”.

Does the test you used to determine your risk profile apply across asset classes? Most discussions and surveys seem to focus on a mix of stocks and bonds. Many times the people who design the tests sell such things.

As you replied to another person, there are indeed, other asset classes. It’s almost as if the standards ones are stocks and bonds and the others are for when you’re thinking outside the box (rather than stocks and bonds being out of the box thinking).

Assuming there is some bias in the tests for risk, do you have any thoughts as to how to determine a risk profile for something beyond a listed security?

I always viewed risk as mostly coming from lack of knowledge. Any market risk is magnified by one’s lack of knowledge when you consider options where you have not invested the time to come up the learning curve.

John Corey- Real estate investor, 20+ years – multiple states and countries.
Check my blog – johncorey.wordpress.com/ – advice for real estate investors.

LivingAlmostLarge March 26, 2010 at 2:45 pm

I just invest normally. If I had extra at the beginning of the month I would have dumped it in. But other than that, nope.

Kristen July 5, 2010 at 8:05 pm

Don’t forget that the one-stop shops you mention in point #6 come with a cost. It’s important to evaluate the fees they’re charging – and look for the lower-cost options.

Michael July 6, 2010 at 4:28 am

I was wondering if you would recommend investing in companies you deal with everyday. For instance if you always eat at Subway, invest in it.

Stephen July 6, 2010 at 9:52 am

At my last job when I was sorting out my rsp, they told me I was a medium risk investor and I am getting about a 6%+ ROI, which I consider okay. When it comes to stocks, I prefer not to try to predict the market but going into genres I am personally interested in and know about; this way, I am constantly aware of what is going on and can see trends.

Scott Lovingood July 6, 2010 at 12:39 pm

I think the first question to ask is 1) Do you have your own side business? I have found that the best investments I have ever made were in my own business or the business of close friends as partners or loan arrangements. We often hear how important it is to invest in the stock market but rarely do we hear about investing in our own business.

Start a side business and invest in it. The return will be far greater than any stocks (which are partial ownership of someone else’s business that you have no control over).

Admittedly it is more work, but it can also be more fun.

Plus from a stock market standpoint, we are probably facing a lost decade where it goes nowhere for over 10 years. P/E ratios are not where bull markets begin but rather where bar-b=ques normally start. The bull gets slaughtered and fed to the market. Check out John Mauldin and his 20 year bear article.

Very eye opening if you have never studied this type of information. Good luck with everyone’s investments.

Be purposeful. Be passionate. Be Wealthy!!

Evelynn Roeber March 15, 2012 at 1:47 am

Hi, I do think this is excellent. Money and freedom can lead to happiness, so may you be rich and continue to guide other people.

Derek May 1, 2012 at 4:29 pm

Although you don’t need a professional necessarily to manage your investments full time, it’s a good idea to pay someone to help you get started, help you review your allocation, or help you review your particular holdings. I recommend using Vanguard mutual funds and ETFs and then finding an advisor you can trust to help you along the way. Great Post!

Torsten May 4, 2012 at 7:30 pm

There are a lot of great posts on here. Homes can be a great investment if you buy them right. Real Estate is on an 18 year cycle and I believe we are close to the bottom of the cycle. The cycle is revival, expansion, contraction, recession and back to revival.

Belinda @ Credit Card Procesing May 8, 2012 at 10:13 am

This is very informative post. At some point it looks scary as there are so many options and considerations to make. But one should accept that this is reality. Everyone should have a financial plan. And action beats inaction!

The hardest thing for most of the starters is taking the first step. The first step is simple – making powerful thoughts. Take time to sit down, write down a general plan and do little research for specific tasks to be done.

John @ yourmoneytalks.com May 13, 2012 at 7:47 am

The first thing that everyone does when they already have the money is to invest in a home or buy a car. This is usually the very first investment that every individual makes so long as they’re able to.

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