6 step investment development plan

The key to successful investing is in the planning. Having an investment plan will help to clarify your time frame, risk tolerance, asset allocation, and select suitable investment products.

1. Complete the Personal Finance Flowchart

Before you invest, review your financial situation.

Complete a budget. You can use this online budget planner from MoneySmart to help. This will help to work out what you can save and invest.

Write down all your debts and assets. Writing down what you own and what you owe will help you see what savings you can invest. It will also help you see how you can diversify.

2. Set your financial goals

Write down your financial goals and the matching timeframe. For each goal include how much you’ll need and when.

Then divide your goals into short term (0 to 2 years), medium term (3 to 5 years), and long term (5 years or more).

Setting and defining your financial goals will help you pick the right investment to reach each goal.

3. Learn about investment risk

Investment risk is the chance that you’ll lose some or all the money you’ve invested, due to your investment falling in value or not performing how you expected. All assets carry risks — some are riskier than others. 

Risks that can affect the value of your investment include:

Source: MoneySmart.gov.au
Risk and return

As a general rule, the higher the expected return on an investment, the higher the risk of the investment. The lower the expected return, the lower the risk. Lower risk means the returns are more stable and there is a lower chance you could lose money.

For example, a term deposit is a low risk investment. It pays interest, and the value of the investment doesn’t change. Shares are a higher risk investment. The price of a share can move up and down a lot over a short amount of time.

The graph below shows the risk and return relationship for the common asset classes.

Graph showing the relationship between the expected risk and potential return of different assets classes. Lower expected risk and lower potential return asset classes include cash and fixed interest. Higher expected risk and higher potential return asset classes are property, shares and alternative investments.
Source: MoneySmart.gov.au

There are no shortcuts to investing success. The combination of high returns and low risk doesn’t exist.

Understand ‘risk tolerance’

Risk tolerance is your capacity to cope with falls in the value of your investments. Age, income, wealth, financial goals and even your health are common factors that influence your risk tolerance. 

For example – a person in their 20s with a modest investment and high income will have greater ability to bounce back from investment losses than a person in their 60s, recently retired, with their super savings at their peak.

Ask yourself: how would I feel if I woke up tomorrow and found the value of my investments had dropped 20%?

If this drop would cause you excessive stress or panic and withdrawal of your money, high risk investments are not for you.

Each investor’s risk tolerance is different and for different financial goals that have different investment time frames you may be willing to accept different levels of risk.

It’s important to understand your risk tolerance and find investments that are aligned to it.

4. Conduct some Research into Investment Options

To find the right investments, you need to think about a number of items:

Return: what is the expected return on the investment? Does it come from income or capital growth?

Time frame: How long before you need to access your funds?

What types of risk does the investment involve? Are you comfortable to take on these risks?

How long will it take to sell the investment and get your cash out eg liquidity?

What are the transaction costs to buy and sell the investment?

How much tax will you pay on earnings (income and capital gains) from the investment?

See the aus.finance wiki article choose your investments to learn more about different types of investments.

5. Build your portfolio

How you create a portfolio depends on your goals, your time frame for investing, and your capacity to cope with investment risk.

Low risk investments make sense for shorter-term timeframes and goals. This includes savings accountsterm deposits, and bonds.

Higher risk investments makes sense for longer-term goals – eg shares and property. Investing over the longer-term can help you to absorb any short term negative returns/volatility.

It’s important to make sure your portfolio is diversified across different asset types. This will protect you against losing too much if the value of one particular investment falls. See the aus.finance wiki entry diversification to learn more about this.

6. Regularly review your investments

It’s important to review your investments regularly to make sure they’re performing as expected. You should make sure you remain suitably diversified. Check whether you’re on track to reach your financial goals. See the MoneySmart article keep track of your investments to learn more about this.