Making Cents Of Savings
Quite often we are asked by readers and clients how we recommend investors develop a long-term financial plan, and what kind of investment strategies we recommend. Though these are topics we typically try to work into our normal pieces, from time to time it's necessary to dedicate an entire space to exploring ideas about saving, financial planning, investing, and so on.
First and foremost, let us say that financial planning is one of the most misunderstood and overcomplicated concepts in modern finance.
Obviously all investors need to build some sort of loose financial plan in order to help them save and invest money for the future. It's also nice to find ways to avoid (NOTE: not evade) taxes when possible. However, most people are under the impression that this process is way more complicated than it truly is, thanks mostly to people in the financial services industry.
Most financial planners try to sell financial plans by the pound; because that's the only way they're profitable. Most people simple don't need one. Most have issues that they need to deal with as they arise (e.g. kids that will be going to college, elderly parents who need care, etc), but very few have so many issues to consider at once that a full-blown financial plan is warranted.
What's more, very few investors realize that the second a new unexpected issue arises, the costly plan they just paid for is probably obsolete.
This is because all financial plans are built on assumptions. In order to make any kind of forecasts, certain variables need to be taken out of the equation. Interest rates, average annual returns, taxes, even the rate of inflation needs to be "approximated" (read: guessed). If any of these "approximations" become inaccurate, so is any financial plan based on the incorrect assumptions.
The single greatest aspect of any sound plan for saving or investing is this: flexibility. As circumstances change, it is of the utmost importance that they be able to react to those changes. However, these circumstances aren't limited to lifestyle issues, they also include economic developments.
As economic circumstances change, it is critical that investors be able to react. Follow the old Marine Corp mantra to "improvise, adapt, and overcome" to changing market conditions.
Unfortunately, the vast majority of people believe that they can construct a portfolio to buy and hold, regardless of changes in the investment world, based on their individual characteristics.
Typically they consider age, income, net worth, tax bracket, risk tolerance, etc. I'm sorry to say that this strategy absolutely doesn't work. The fact is that the investment world simply doesn't care about investors, much less their age, average annual income, or "risk tolerance." Nor does it care about height, eye color, pre-existing medical conditions, or any number of useless factors.
The investment world reacts to economic developments, political climate, monetary policy, and a host of broad factors that are ever-changing.
In our opinion, the three criteria required of any successful savings and investment plan are:
- A savings plan that is disciplined and consistent,
- A financial plan that is adaptive to lifestyle changes, and
- An investment strategy that is flexible and reactive to changing market conditions
In order to achieve financial independence, it is critical that investors employ these three factors with at least moderate success over a long term. The three can be prioritized, but never neglected.