The following must be worked through in order to have your goals for investing clearly set and to build a better understanding of the best investment vehicle for you:
Review your assets, liabilities and future cash needs to determine your net worth
- What is the investing time horizon?What type of investments will you make?
How much money do I have to invest?
Assessment must include:
savings and other investments
establish what portion should be liquid and what portion should be invested long term
Do you have short term financial needs?
The greater the risk, the greater the potential return from the investment
Will you need to live off the investment in later years?
How much risk am I willing to accept?
Two types of return to expect: capital gains and cash dividends
Diversification and timing can reduce the potential impact of these risks
Various forms of capital risk:
1. Business risk -- the company in whose stock you invest may not generate the sales and earnings growth expected or management may not be able to bring the business to the
next level of growth and value of the stock may drop because of these reasons.
2. Stock-specific risk -- unsystematic risk; putting all of your eggs in one basket; avoid this
3. Liquidity or marketability risk
-- a thin market where there are not many buyers may lead to high transaction costs in order to close out the position
4. Interest rate risk -- market prices of securities fluctuates inversely to changes in the interest rate as a result of forces of supply and demand
5. Systematic risk -- a term for market risk; it is the risk associated with the movement
of the overall market; this risk in nondiversifiable
6. Inflationary or purchasing power risk
-- inflation erodes the purchasing power of money over time; this risk is minimized when investing in common stock because historically,
stocks keep pace with inflation
7. Taxation risk -- dividend income and capital gains are taxed at the same rate for the individual investor; changes in this law could change attractiveness of the security and thus the value
What are your goals? Is this money for retirement? A down payment on a house? Your child's education? A second home? Income to live on in the proverbial golden years?
Common Investment Objectives:
Income -- use the money for some or all of their living expenses; stocks with high dividend income are suitable for this objective
-- seek to build an investment portfolio that will make money over the long term by capital appreciation
-- securities that are expected to produce large short term and long term capital gains are suitable for investors with this objective
-- an investor who buys and sells stocks often solely to profit from short-term price fluctuations