Key Takeaways
- Investing is highly personal and should always align with your individual goals, timeframe, and risk tolerance.
- Understanding the relationship between risk and return is critical to building an effective investment strategy.
- Diversification across asset classes and markets helps manage risk and improve long-term consistency.
- Different asset classes offer varying levels of income, growth, liquidity, and volatility.
- Regularly reviewing and adjusting your investment strategy is essential as your needs change over time.
Determine Your Investment Objectives
The first thing you should do before making an investment is to determine your investment objectives. To determine this, ask yourself the following questions:
- How much money do I have available to invest?
- What do I want to achieve from the investment?
- Over what period?
- What risks am I prepared to take to achieve this?
- What rate of return do I require from the investment?
- What other investments do I have that should be considered as part of my overall strategy?
- Clarifying these objectives early helps inform the most appropriate wealth management and investment advice.
Clarifying these objectives early helps inform the most appropriate wealth management and investment advice.
Understanding Risk and Return
Understanding Risk and Return
The balance between investment risk and investment return is particularly important. Your risk/return profile needs to be determined, in conjunction with your adviser, to determine an appropriate investment strategy that meets your objectives.
What Is Investment Risk?
Risk is the chance that the return from an investment will be significantly different from what you expected. There is an element of risk in every type of investment and it can show up in various ways:
- There is a risk that you may not get the earnings (or return) you expected from your investment
- There is a risk that you may lose some or all of your capital
- There is a risk that changes in the value of money, due to inflation, mean that you are not compensated adequately for your investment
It is important to determine the degree of risk which is acceptable to you and have your adviser match it with appropriate types of investments.
Understanding Investment Returns
Some investments promise a fixed rate of return (such as fixed interest investments) while others have a variable rate of return (shares). Return can also come in the form of income (via interest or dividends) or capital gain (realised when an investment is sold for a profit), both of which have different tax implications.
Your needs or preference for types of returns will determine the type of investments selected.
Finding the Right Balance Between Risk and Return
Risk and return are directly related. Higher risk investments often produce higher returns (or higher losses). Lower risk investments may mean lower returns. It is often quite difficult, if not impossible, to produce high returns with low risk.
The balance between risk and return will form the basis of your investment strategy and is a core focus of portfolio construction and asset allocation.
Building an Effective Investment Strategy
Diversification is a fundamental principle of wise investment and is a key element of your ability to reduce risk while achieving suitable returns.
Investors have a better chance of achieving consistent performance over the medium to long term by spreading their investments across a range of asset classes including cash, fixed interest, shares and property, and by having exposure to local and international markets.
The exposure levels to each of these asset classes will be determined by your investment objectives and risk/return profile. Your needs may change over time so it will be important to regularly monitor and update your investment strategy to account for these changes.
Understanding Your Investment Choices
There are four main classes of assets in which you can invest:
Cash
Cash covers deposits with banks, building societies and credit unions, and overnight market investments. Cash has the advantage of being relatively secure and easily accessible. Inflation has an adverse impact on its value.
Income Investments
In a basic sense, income investments involve lending money to a financial institution or company. In return, you receive regular interest payments for the term of the loan. Returns are usually higher than cash and fairly predictable. Most fixed interest products are reasonably secure but vary depending on the issuer and terms.
In addition to the traditional range of securities, there is a growing pool of new and innovative investments to consider.
Shares
Shares represent your part ownership (or share) in a business which can be traded on the Australian Stock Exchange. Capital and income usually rises with inflation. Liquidity (ability to trade the shares) is usually good and gains are historically superior over the longer term. Volatility can affect returns over shorter time frames.
Property
Property investments are in real estate whether it be residential, commercial, retail or industrial properties. Property can be held directly or indirectly through a listed or unlisted property trust. Capital and income usually rises with inflation. Liquidity can be an issue and direct property often requires more maintenance than other types of investments.
Investing Directly vs Indirectly
Investing directly has the advantage of control, but the disadvantage of requiring hands-on management. Buying units in an investment trust (often called a managed fund) is an indirect way of making investments in shares, property, fixed interest or cash.
Investing indirectly enables you to achieve diversification more easily by pooling your funds with other investors and using the expertise of a professional manager to make investment decisions. The disadvantages are that fees may be higher than investing directly as they are ongoing rather than one off. The returns are also largely dependant on the skills of the fund’s management team which can be difficult to measure, except on an historical basis.
Investors can also choose to invest directly in some areas while using managed funds in more specialist investments such as overseas shares.
Gearing vs Ungeared Investing
If investment monies are borrowed, in whole or part, the investment is geared. By borrowing funds to invest, you considerably increase the risk associated with your investment but also increase your profit potential when returns are positive.
Gearing can be a very successful investment strategy but needs to be carefully considered as to whether it is appropriate for your needs.
Managing and Monitoring Your Investments
A somewhat cumbersome but essential part of investing is the collection of all of your investment documentation, such as share trades, dividends or interest payments.
Many investors are time poor or have no wish to administer their investment portfolio and deal with all the paperwork.
Morgans has created a service that takes the hassle out of investing by collecting and recording all of your investment documentation. This service, called Wealth+, also provides you with regular reports to help you monitor your portfolio valuation and forecast income.
A clear investment strategy starts with the right advice. Morgans can help you define your goals, understand your risk profile, and build a diversified investment strategy aligned to your long-term objectives.
Speak with a Morgans adviser today.
FAQs
What is the first step when starting to invest?
The first step is determining your investment objectives, including your goals, timeframe, available capital, and risk tolerance.
How important is diversification in investing?
Diversification helps reduce risk by spreading investments across different asset classes, sectors, and markets, improving long-term consistency.
What is the difference between income and growth investments?
Income investments generate regular payments such as interest or dividends, while growth investments focus on increasing capital value over time.
Should I invest directly or through managed funds?
Direct investing offers more control, while managed funds provide professional management and easier diversification. Many investors use a mix of both.
Why is professional investment advice important?
Professional advice helps align your investment strategy with your goals, manage risk effectively, and adapt your portfolio as your circumstances change.
What should I consider before making an investment?
Before making an investment, you should determine your investment objectives by asking yourself:
- How much money do I have available to invest?
- What do I want to achieve from the investment?
- Over what period?
- What risks am I prepared to take to achieve this?
- What rate of return do I require from the investment?
- What other investments do I have that should be considered as part of my overall strategy?
What is the relationship between risk and return in investing?
Risk and return are directly related. Higher risk investments often produce higher returns (or higher losses), while lower risk investments may mean lower returns. It is often quite difficult, if not impossible, to produce high returns with low risk.
What are the main types of investments I can choose from?
There are four main classes of assets in which you can invest:
- Cash: Secure and easily accessible, but inflation impacts its value.
- Income investments: Lending money for regular interest payments; usually predictable returns.
- Shares: Ownership in a business traded on the ASX; historically superior gains over the long term.
- Property: Real estate investments; can be direct or through property trusts, but liquidity can be an issue.
What is the difference between investing directly and indirectly?
- Direct investing gives you control but requires hands-on management.
- Indirect investing (via managed funds) enables easier diversification and uses professional managers, but fees may be higher and returns depend on the fund manager’s skill.
What is gearing and how does it affect investment risk?
If investment monies are borrowed, the investment is geared. Borrowing funds to invest considerably increases the risk associated with your investment but also increases profit potential when returns are positive. Gearing can be successful but needs careful consideration.
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