How To Invest Your Money in 2023
As 2022 draws to a close, it's time to spend time with your family and set your goals for 2023. It's also time to think about where to put the money you've managed to save.
Investing your money in the market is always a bit risky. There is no guarantee that your investments will be successful, nor is there a proven way to determine the best place to put your funds to grow and make money over time. There is, however, a way to build a portfolio that matches your goals, your timetable for achieving them, and your ability to withstand market shocks. It's called asset allocation.
Indeed, asset allocation is the diversification of your investments between stocks, bonds and cash.
How Asset Allocation Works
When determining the composition of your portfolio, it is crucial to remember that it should be unique and tailored to your preferences and financial goals. Every investor has their own timeline, goals and risk tolerance, and your portfolio should reflect this. Here are some factors to consider when choosing assets to invest in and determining the amount to invest:
Your investment goals and time horizon
Determining what you are investing for can help you choose assets that match your goals. If you're investing to earn extra income, you'll want to consider an asset like dividend stocks or bonds. On the other hand, if you are looking for longer-term growth or want to build a nest egg for your future, you may want to focus on stocks that will grow over time.
When your investment horizon is short, market corrections are particularly problematic emotionally and financially. Emotionally, your stress level soars because you had planned to use that money soon, and some of it is gone. Financially, selling your shares at the bottom of the market locks in your losses and puts you at risk of missing out on the recovery of the shares.
Your risk tolerance
Risk tolerance refers to the amount of loss an investor is willing to bear when making an investment decision. Investors with a high-risk tolerance can generally handle a more significant allocation to equities, while investors with a low-risk tolerance should focus on an allocation mix that includes fewer high-volatility assets.
By adjusting your allocation according to your age, you avoid these problems. For example, you might consider investing heavily in equities if you are under 50 and saving for retirement. You still have many years to go before you retire, and you can weather the current market turbulence.
You may have heard of age-based asset allocation guidelines, such as the Rule of 110. The Rule of 110 determines the percentage of stocks you should hold by subtracting your age from 110. If you are 25, for example, the Rule of 110 advises having 85% of your portfolio in stocks.
Liquidity
The liquidity of an asset indicates to investors how easily it can be converted into cash without affecting its market price. Therefore, you should always have your emergency fund (4 to 6 months of expenses) allocated to a very liquid asset because you must be able to access the cash easily in case of an emergency. For example, bonds or certificates of deposit are more liquid than property.
How To Diversify Within Each Asset Class
Diversifying between stocks, bonds, and cash is crucial, but you must also diversify within these asset classes. Here are some ways to do this:
Stocks (80-85% if you are 25 years old)
Instead of investing in 20+ individual stocks, I suggest everyone invest in highly diversified instruments such as mutual funds or exchange-traded funds (ETFs). A mutual fund is a pooled collection of assets that invests in stocks, bonds, and other securities. An ETF is a collection of hundreds or thousands of stocks or bonds in a single fund.
In my opinion, the best mutual fund to invest in is VFIAX (Vanguard S&P 500 Index Fund), offering a yearly return of close to 11-13% if you have held a position for more than three years.
On the ETF side, I believe the most attractive one is the VUG (Vanguard Growth ETF), offering a yearly return of 10-14% if you have held a position for more than three years. This ETF has lost c.27% of its value since January 2022 – the worst performance since 2008 – representing a good entry point.
Bonds (5-10% if you are 25 years old)
Diversify your bond holdings by investing in bond funds. Or vary your holdings by maturity, sector and type of bond. The different types of bonds available are mainly municipal, corporate, and government bonds. Bonds can provide returns between 3-9% depending on riskiness and maturity.
Cash (5-10% if you are 25 years old)
Also, you should not rely on stocks to build your emergency fund because market volatility can lead to a drop in your investment portfolio. Indeed, having to withdraw money during a bear market – a moment when the overall market is decreasing – is the best way to crystallize losses.
You can hold some of your cash in multiple liquid savings accounts such as First Direct, offering 7% yield, or Barclays offering 5%, and the rest in a less liquid certificate of deposit (CD) that earns a higher interest rate than a traditional savings account.
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If you aim to grow your savings and to be able to generate significant extra income over time, start investing now and feel free to reach out to me if you have any questions regarding your investment strategy.
I hope you found this article useful. As for me, I will continue to enjoy the time I spend with my loved ones.
Have a nice week!
Isaac