There are five basic considerations when investing money. Before discussing the five basics, it is important to stress the distinction between saving and investing. Saving is used to accomplish financial objectives that are near to medium term which require a specific sum at a specific date, such as a down payment for a home, a family vacation, a medical expense, or other high priority life events.
Investing is the accumulation of funds for use in the medium to long term use with the understanding that over time the value of those funds will fluctuate day to day and may be worth more or less than the original investment.
- Time Horizon: refers to the amount of time between the initial investment and the use of the money.
- Risk Tolerance: This describes the investor’s emotional comfort with the ups and down of the markets.
- Expected Return: This is an estimate of the rate of growth the investor seeks to reach the investment goal. For a person with $100,000 who wishes to accumulate $215,000 in ten years, an annual growth rate of 8% will be required.
- Asset Class Preference: refers to sectors of the economy the investor prefers to invest in or prefers to avoid.
- Tax Status: an estimate of the tax liability the investor will have to pay based upon the success or failure of the investment over time. Tax liability and investment expenses reduce the funds available to the investor.