Why Am I Investing My Money?

This is the second post in Your Ultimate Guide to Investing for Beginners. To read all posts in order, start with What is Investing? then continue reading the rest of the series on this page.

One of the keys to successful investing is setting investment goals. It means defining your dreams for the future. Being able to point to a specific reason for investing can help you set the right goals, and can provide you with a way to stay motivated as you move forward.

On today’s post, we are going to take time to consider what you want to accomplish with your money and to determine specific investment goals. Is your goal a down payment on a house, paying for college, retirement, or something else? Ask yourself, “What do I want to achieve?”

STEP 1: Write Them Down

Write down your goals and always keep those in mind as you invest. Writing down practical and attainable investing goals makes them more real. For help getting started, use our Financial Goals Worksheet. Be sure to write specific objectives such as ‘retirement at age 60’ or ‘pay for Anne’s college education.’ Other goals may include supplementing your retirement income, saving for a house, or starting your own business.

Label each goal as a “want” or a “need”. Prioritize them with needs first. A need is something you have to have, something you can’t do without such as shelter, food, water, and heat. A want is something you would like to have. It is not absolutely necessary, but it would be a good thing to have like movie rental subscriptions, lattes, and vacations. First, plan to cover your needs. When that is done, plan for some of your wants.

Writing down and prioritizing your investment goals is an important first step toward developing an investment plan.

STEP 2: Identify Your Time Frame

Using our worksheet, divide your investing or savings goals into short-term, medium-term, and long- term. Categorizing your objectives by short-term, medium-term (one to five years), and long-term (more than five years) financial goals provides focus to your plan. It also helps you match your goals with the appropriate investment resources.

Short-term goals are those you hope to achieve within the next 12 months, like taking a special vacation or making a down payment on a new car. For short-term goals, you’ll choose investments with short-term maturity dates or savings vehicles that protect you from losing value like savings accounts, money market accounts and bonds.

Medium-term goals are one to five years away. Examples of medium-term goals include a down payment on a new house or funds to renovate your home. With medium-term investments, you choose investments that have a low to medium risk ratings.

Long-term goals are more than five years away. Some of life’s biggest goals, including retirement and college education, fall into this category. For your long-term goals, you can consider medium to high risk investments, which will potentially earn you more money. As your goal nears, increase the allocation of more conservative investments to reduce risk and ensure your financial stability.

STEP 3: Determine the Total Future Cost of Each Goal

First, calculate the cost of your goal or need in present value, and then taking into consideration inflation rate and time horizon, calculate the future value of cost of the goal. See some examples below.

example 1: Retirement Goal Planning

Let’s plan Juan’s retirement needs. Juan is 30 years old today, wants to retire when he turns 60 years old and estimates that he’s going to enjoy his retirement until 90 years old. If he retires today, he estimates that he needs Php30,000 a month to cover his daily expenses for a period of 30 retirement years. How much does Juan need when he retires?

If we calculate his retirement need, it would be Php 10,800,000 (Php 30,000 x 12 months x 30 years) in today’s value.
Basically, if Juan wants to retire NOW, he needs approximately Php 10,800,000 so that he has Php 30,000 per month for the next 30 years.

If he wants to retire in 30 years, we have calculate the future value of his retirement need. Inflation rate in the Philippines for 2014 is approximately 4% per annum. With the help of an inflation calculator, enter the amount in today’s pesos (eg Php 10,800,000), the expected average rate of inflation (4%) and the time period (30 years).

Basically, if Juan wants to retire when he is 60 years old (in 30 years), he needs approximately Php 35,028,693 so that it’s like living with Php 30,000 today per month for the next 30 years.

Juan’s Retirement Goal: He needs to have Php 35,028,693 in 30 years.

example 2: Education Planning

Let’s plan Anne’s education. Anne is Juan’s 3 year old daughter. When Anne turns 18 years old (in 15 years), Juan would like her to study college in Ateneo de Manila University. Presently, tuition costs and miscellaneous expenses are at Php90,000 per semester. On average, tuition and miscellaneous costs increase 10% per annum. How much does Juan need to save so he can send Anne to study for college in Ateneo de Manila University?

If Anne will take a 4-year course today in Ateneo, she would need Php 720,000 (Php 90,000 x 8 semesters) for her tuition and miscellaneous expenses.

Since Anne will be going to college in 15 years, we have to calculate the future value of her education need. Given that tuition and miscellaneous costs increase 10% per annum, with the help of an inflation calculator, enter the amount in today’s pesos (eg Php 720,000), the expected increase (10%) and the time period (15 years).

Basically, if Anne goes to Ateneo de Manila University when she turns 18 years old and takes up a 4-year college degree, she would need Php 3,007,619 for her to education.

Anne’s College Education Goal: Juan needs to have Php3,007,619 in 15 years so Anne can study in Ateneo.

STEP 4: Determine How Much You Need to Save Each Month to Achieve the Goals.

Divide the cost by the number of months to determine how much you need to save each month to achieve the goals.

example 1: Juan’s Retirement Goal: He needs to have Php 35,028,693 in 30 years. If Juan was going to reach his retirement goal, he would need to save at least Php 97,302 per month for the next 30 years (Php 35,028,693 divided by 30 years divided by 12 months)

example 2: Anne’s College Education Goal: Juan needs to have Php 3,007,619 in 15 years so Anne can study in Ateneo. If Juan was going to reach his daughter’s education goal, he would need to save at least Php16,709 per month for the next 15 years. (Php 3,007,619 divided by 15 years divided by 12 months)

Note: The figures above assume that the money is placed in a low-risk savings account and that it earns zero-to-low interest. But, if the money was placed into investments where there is higher potential for growth, depending on the time frame and risk tolerance, the amount needed to save would be lowered.

Once we’ve determined your financial needs/goals and how your time horizon affects them, it’s time to think about your tolerance for risk. All investments carry some risk, but some carry more than others. How well can you handle market ups and downs? Are you willing to accept a higher degree of risk in exchange for the opportunity to earn a higher rate of return?

{Go to the Next Post: Know Your Investment Personality}