Making your first investment can be exciting, imagining the double, maybe even triple-digit returns that some funds have delivered over the long-term. But it can be daunting as well, when you remember the pain nearly every asset class, region and sector faced in the credit crisis in 2008.
Finding the right investment to start off your long-term plan is key.
Keith Iles, director at the JHC Partnership, says there are a number of things investors need to ask themselves when they start building a portfolio for the first time.
1 – Work out what risk you can afford to take
Iles (pictured) says one of the most important things investors need to do is understand the risk they are taking on when they put their money in anything other than cash.
It can be tempting to put a lot of money in equities for the long-term, but as we have seen in the past, there are times when markets fall dramatically, and if you can’t afford to sit tight then, it is probably best to stick to more cautious asset classes.
"There is nothing wrong with having a fixed interest fund that just chugs along and gives you compound interest," Iles said.
Martin Bamford, chartered financial planner at Informed Choice, says working out your attitude to risk is absolutely paramount before you make a single investment decision.
"We always ask how much risk you want to take, how much risk you need to take and how much risk you are able to take," he said. "Until you’ve determined all three of those things, you shouldn’t expose yourself to any investment risk."
2 – Ask yourself what you’re saving for
Iles says many first-time investors are in the process of building up a pot of cash for their first home.
In this case, the investment horizon is often relatively short-term, so Iles says it is important to have a healthy stash of cash close to hand.
"You want some money there that you do not want to take a risk with," he said.
But for more long-term goals, Iles says first-time investors can often afford to take a lot more risk than they might think. He says it is a good idea to take advantage of a company pension scheme with monthly contributions coming out of your salary.
"You’re looking at monthly money so if markets go down, next month’s money will buy them at a cheaper price," he said.
Bamford (pictured) says a mistake too many investors make when they are starting out is underestimating the importance of holding some cash, to the detriment of their long-term goals.
"With interest rates so low, it is tempting to overlook cash as an asset class. But you should have cash on hand to avoid selling other investments or to take advantage of opportunities when they arise," he said.
3 – Ask yourself what money you have
Determining what investments you will want to go for depends on whether you have a lump sum to invest or if you will be drip-feeding your money in via monthly contributions.
The level of risk you can take may vary, says Iles. While drip-feeding can naturally smooth market volatility, it also means you will miss out on some of the upside it is possible to see if you invest a lump sum in the market at the right time.
4 – Don’t tie up too much money too early
Even though cash is delivering extremely low yields at the moment, Iles says first-time investors often underestimate short-term requirements and fail to anticipate the need for emergency funds in day-to-day life.
Having something go wrong unexpectedly, such as a car breaking down or a sports injury, can upset your finances. The last thing you want to do is pull money out of your investments, or realise you cannot afford your monthly contributions, something Iles says can have a debilitating impact on your investments.
Iles says it is better to start off slowly and grow your contributions rather than become cash-strapped.
5 – Keep it simple
We often hear how dangerous it is to put too many eggs in one basket, but Bamford says when you are investing for the first time, making things too complicated is even more dangerous.
"Often investors buy too many funds that do the same thing. They’ll have 20 balanced funds that are all performing the same way. You’d be better off buying three or four funds and, while not leaving them alone completely, it is best to resist the temptation to be too active," he said.
Bamford says you should look to hold a fund for a minimum of five years, ideally 10. He adds it is important to be able to sit through the troughs if the market dips.
