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How Do I Invest A Lump Sum?

Many people with money in the bank earning minimal interest will be wondering how to make their money work more effectively. Considering a lump sum investment service may be an appropriate way to seek to get back more than you put in. Effective management of accumulated capital may enable you to speed up your journey to retirement, send your child to university, put down a down-payment on (or buy outright) a home, start a business or realize your life goals (as long as those cost money…). You may be lucky enough to have recently received a lump sum of money, in which case it would be prudent to weigh up the options available and make sure you are making educated decisions for your wealth. Depending on how much money you have at your disposal may dictate the best course of action. Amounts aside, the checklist of considerations will remain unchanged.

Eradicate Debt

Even small sums of money, managed correctly, become larger amounts of money. That is, unless you are laden with debt. Debt will continue to accrue interest against the principal amount indefinitely until you pay it off. If you are an investor, compound interest is your best friend– if you are a borrower, it is your worst enemy. The interest rate on the debt will vary and be dependent on the type of debt. Starting with credit cards look at how much your debt is costing you in percentage terms each year. Is it higher than 5%? Use your money to pay off your debt. The next time you receive a small amount of money you can consider investing it- until then, your primary concern should be plugging the holes in your boat. The scenario where this rule of thumb becomes more subjective is with reference to outstanding mortgages. In answer to the question “Should I pay off my mortgage or invest?”, an objective conclusion can only be reached after having correctly calculated all the component costs of your mortgage (how repayments are structured across principal, interest, tax and insurance along with early repayment fees and other miscellaneous fees). Looking solely at the annual mortgage ROI will be inconclusive.

However, for those with JPY denominated mortgages in Japan, with access to investments denominated in currencies other than JPY (owing to low borrowing rates) you will commonly find that all all associated costs withstanding, superior returns can be achieved allocating your money into investments- ultimately allowing you to pay back your mortgage sooner, or free up more capital for other expenditure (or maybe another house?).

Create An Emergency Fund

Everybody is met with surprise non-discretionary expenses (the things you don’t choose to spend money on, and usually would rather not spend money on, that have to be paid for nonetheless). If you do not have three months of fixed expenses readily accessible in the bank, then any money you receive or accumulate should go toward creating a cash-cushion to provide you with liquidity in a time of crisis. Once you have this “what-if” money taken care of you could consider how best to allocate your money across different platforms based on when you will need the money. This will enable you to manage your liquidity so as to not jeopardize your long term goals. You might also want to create a budget to avoid costly mistakes.

Define Your Investment Objectives

You cannot aim for your target if you do not have one. Old financial planning adages aside, having a clear understanding of how much money you require, how long you have to acquire it, and how much volatility (risk) you can tolerate will enable you to choose appropriate investments and choose the correct financial adviser. Retirement may seem like a conceptual event of the distant future but whether or not it happens at all is predicated on the financial planning decisions, and provisions that you put in place now. If a 25 year old was to invest $5,000 into a portfolio that grew at an average of 5% a year after inflation (close to its long-run average), it would be worth $35,200 by the time she reached age 65. If she was 35, it would be worth $21,600 by age 65, assuming the same growth rates: time is money. Pro-actively taking preparatory measures now will drastically improve your future quality of life. Even if you take the problematic view that “I may die tomorrow, retirement is not my concern!”, you will probably agree that where it comes to wealth, more is better. Accordingly you will be wise to look to investment as a means to improve your quality of life…

Create An Investment Plan

Once you’ve determined how much capital you have to allocate after servicing existing debts, along with having pinned down the reason why you’re investing (e.g. retirement savings, education fee planning, real estate down-payments, a new car…) then you can start to look at investment opportunities. Diversification across a basket of investments will help to reduce risk in the short term and (if you have a portfolio built by a professional) will produce consistent returns in the long term. Slow and steady risk-adjusted returns will enable your money to compound growth annually.

headDo you know about the “Rule Of 72”?

rule of 72

Depending on your risk|return profile you may wish to target lower or higher growth accordingly. Whatever your tolerance for risk may be you should monitor your portfolio at per-determined intervals to ensure that your allocations remain in line with your original portfolio design (i.e a period of strong growth in one part of your portfolio will increase the overall size of that particular part of the portfolio, potentially making certain that portion overweight, and other parts underweight- thus deviating from your original allocation and potentially increasing risk). Re-balancing is your health-check, your car maintenance or your annual industrial-grade house clean. It does not take long, and it will ensure a mishap-free year ahead. The affect of compound interest can be dramatic when extrapolated out across long periods of time (as is often the case in pension and retirement planning). To qualify for such fantastic returns an investor requires both patience and a stoic commitment to sticking to the program; no ad-hoc withdrawals for discretionary spending that reduces your capital base. If you are able to do this, financial freedom is simply a question of waiting.

headThe chart below shows the growth of 10,000 USD at different growth rates over 40 years.

compound interest

Choose A Vehicle

There are numerous ways for you to access investment opportunities. Which is most appropriate will likely be determined by where you are from, where you currently live, where your money is and what it is that you’d like to invest in. As somebody living away from their country of birth, (an expat, if you will) you are able to choose from a number of account providers in locations globally who tailor solutions to the requirements of people in situations like yourself. This will commonly entail portability (the account follows you around the world if you move), ease of access (you can take your money out as and when you need it), global investment access (ability to invest in instruments across the world) and sometimes tax privilege and tax planning capabilities (reduce or mitigate tax compliantly). If you are planning for the long term you should remain cognizant that your personal circumstances are likely to change,along with the world in which you are to be investing. Choosing an account that permits you ongoing flexibility to adapt to these circumstances is important. The decisions you make with your capital today will come to form the foundation of your future financial security. Judicious financial planning now will reap dividends for the rest of your life and being financially successful is rarely the result of taking large risks and making consecutively correct gambles with money; it is the result of a slow and steady journey, remaining committed to the same strategy throughout, to reach an unchanging destination. Once you have made the decision to invest, the rest is patience.

[sources]

– Thornburg Asset Management: A Study Of Real Real Returns
– Stephen Moore, National Institute: Tapping the Power of Compound Interest
– Tweedy, Browne Company LLC, WHAT HAS WORKED IN INVESTING Studies of Investment Approaches and Characteristics Associated with Exceptional Returns

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