To build wealth successfully over the long term, it is important to understand first what your accumulation goals are, the time you have to accomplish them and to follow the six basic principles to investment success.
- Start today. The biggest threat to your investment program is not the return but procrastination. Start building the habit of “paying yourself first”. Begin at a comfortable amount and add to this over time.
- Use tax shelters. Take advantage of Government Programs to receive tax deductions, tax-sheltered growth, and grants. The four most basic ones available are: RRSP (Registered Retirement Savings Program), TFSA (Tax Free Savings Account), RESP (Registered Education Savings Program), and Cash Value component of permanent life insurance policies.
- Understand risk. We tend to think of risk in predominantly negative terms, as something to be avoided or a threat that we hope won’t materialize. In the investment world, however, risk is inseparable from performance, and rather than being desirable or undesirable, it is simply necessary. Understanding risk is one of the most important parts of financial education. Generally, investments with a low risk also generate a low return. Investing in a bank deposit will probably earn a return of around 1-2% per annum. Investing in shares, however, could generate much higher returns; but there’s also a much higher risk that the investment will drop in value. We all have different attitudes towards investment risk. Consider how comfortable you are with the possibility of losing money or with the returns on your investments fluctuating widely from year to year. This is a personal evaluation only you can make.
- Diversify. Diversification is a risk management technique that combines a wide variety of investments within a portfolio. The rationale behind this technique is that a portfolio of different kinds of investments will, on average, yield higher returns and pose a lower risk than any individual investment found within the portfolio. Diversification strives to smooth out unsystematic risk events in a portfolio so that the positive performance of some investments will neutralize the negative performance of others. Simply put, it avoids having “all your eggs in one basket”.
- Match your investment portfolio to your risk profile. Asset allocation is an investment strategy that aims to balance risk and reward by apportioning a portfolio’s assets according to an individual’s goals, risk tolerance and investment horizon. The three main asset classes – equities, fixed-income, and cash and equivalents – have different levels of risk and return, so each will behave differently over time. There is no simple formula that can find the right asset allocation for every individual, so it is important to go through a process to define the appropriate asset allocation to meet your financial goals.
- Rebalance. As your portfolio grows, certain areas can become heavier in weighting; therefore it is beneficial to periodically respread the proportions to ensure that balance is achieved. Shifting money away from an asset category when it is doing well in favour of an asset category that has underperformed may not be easy, but if done systematically, it results in employing a “buy low, sell high” strategy.
Following these six simple principles will ensure that you are in the fast lane on the road to building wealth. For ways to put these principles into motion, please contact us.