Investment Questions That You Need To Ask Yourself Before Investing
Here are the questions you need to address to create a strong financial plan
Photo Credit :
All of us have aspirations and life goals we want to achieve with our hard-earned money. But, most of these can be achieved only through well thought-out financial plans and disciplined investing. So, before you do any kind of investment, here are the questions you need to address to create a strong financial plan:
What are your financial goals?
Before investing, individuals must be clear regarding the financial goals for which they intend to invest. An investment plan without the presence of a goal leads to erratic decision making and inefficient investments. Ask yourself the reason behind your decision to invest. For different financial goals such as retirement corpus, child's education or marriage, the investment planning varies. These goals could also be for a shorter term like planning a vacation abroad or accumulating funds to pay the downpayment of a new car. Irrespective, before you begin investing, make sure you are clear on what your goals are, how much money would be required to achieve it and how you plan to invest in order to achieve those goals timely.
How long is your investment horizon?
Your investment horizon depends upon your financial goals that are tied to your investment plans. A long term goal such as child's marriage after approximately 15 years needs a longer investment horizon, along with majority investment in equity mutual funds, since these have consistently proven to provide higher returns than other alternatives such as PPF for long term investments. In case your goal is a short term one involving an investment horizon of 1-2 years, consider investing in ultra-short term or short term debt funds as these involve low risk and offer good returns for lower investment period. Additionally, make sure your financial position allows you to comfortably invest for the required investment horizon and doesn't drain you financially.
What's your risk appetite?
Individual's risk taking ability anchors their investment decisions to a great extent. An individual may either be risk averse or may prefer taking risks. The investment options are guided by the risk appetite of the investor. For instance, for a long term goal such as purchase of a house after 10 years, the investment avenues chosen would vary as per individual's risk appetite. A risk averse investor would prefer a balanced portfolio with contribution of debt as well as equity funds to avoid being completely prone to risk involved in equities. However, in such situation, an individual who prefers risk taking would opt for investing entirely in equity mutual funds, since these have consistently proven to be the best avenues for long term goals, providing better returns than other alternative options. Therefore, before devising your investment strategy for achieving any goal, assess your risk appetite as well as the risks involved in the prospective investment options as a failure to do so can lead to creation of an inappropriate portfolio.
What are the alternative investment options?
Before finalizing your investment avenues, make sure you carefully analyze the other investment options available with you. Failure in doing so may lead to the individual missing out on better options which would have suited his/her risk appetite and financial goal more than the one chosen. Only after comparing various investment options on the basis of risk involved, costs and charges involved etc. finalize the investment avenue which suits your financial position the most and also lead you to efficiently achieve your goals which are tied to the investments.
Is the investment tax efficient?
Another important aspect to assess before finalizing your investment option is whether it provides tax benefits or not. Although tax benefits shouldn't solely drive your decision regarding an investment option, presence of it surely gives an investment option an edge over the others. Since many investments are taxed and these taxes often eat up the post-tax returns which the investor gets, an investment option which additionally offers tax benefits on post-tax returns is generally preferred over the one which is taxed. However, sometimes an investment option involving tax can still provide better post tax returns than its peers. For instance, even after imposition of a 10% LTCG tax on equity funds' gains above Rs.1 lakh, these still provide higher returns than other long term investment options such as PPF, along with tax benefits up to Rs.1.5 lakhs on ELSS funds under section 80C.
What are the various costs, charges and commission involved?
Majority of investment options come with certain costs such as entry and exit costs, commission and brokerage etc. which differ with various investment options. Ignoring these charges can prove to be costly and also lead to the individual paying more charges for a less suitable or lower performing investment avenue. In case of mutual funds, the expense ratio charged by various fund houses varies and should be carefully analyzed before finalizing which fund house to invest with, otherwise the investor would end up paying a higher expense ratio for a fund house offering similar returns to another. For example, since direct mutual funds do not involve commission, their expense ratio is lower as compared to regular plans, and hence generate higher returns. Hence, individuals planning to invest must compare all charges associated with different investment options so that they can choose the option which provides better returns along with lower costs involved.
Disclaimer: The views expressed in the article above are those of the authors' and do not necessarily represent or reflect the views of this publishing house. Unless otherwise noted, the author is writing in his/her personal capacity. They are not intended and should not be thought to represent official ideas, attitudes, or policies of any agency or institution.