Many people have asked us how to pick the “best investments.” A common misconception is the goal of investing is to always achieve the biggest returns in order to accumulate the highest level of wealth. However, this isn’t quite the case. In order to pick the best investments for you, you need to have a plan in place. Rather than jumping into another “hot stock” tip, it’s essential to have a framework to help decide which investments are most appropriate for your specific situation.
The purpose of financial planning is to help you reach your goals as efficiently as possible. In order to build a solid plan and investment strategy you first need to determine what phase of life you are in. While the theories behind this can become more complex, it simply means it is important to understand there are different stages to your life. Throughout these different stages, you will experience a change in your needs and goals. As you progress through life, you’ll find each stage funnels into the next.
The three broad phases of life are:
Accumulation
The accumulation phase represents the earliest years of an adult. This typically begins when a person starts their career and follows them as they advance in their profession. During this phase, people typically have considerably more debt than equity (student loans, car loans, mortgage, etc). In this stage, your human capital (the amount of potential future earnings throughout the remainder of your life) is at its highest due to being early in your working life, while your financial capital (the amount of money already saved) is at its lowest.
As you move through the accumulation stage, wages tend to increase, debt begins to decrease, and a solid asset base starts to accumulate. The primary goal for accumulators is to start saving for retirement in addition to other goals such as children’s education, a new home, vehicles, etc… It’s important to continue striving towards paying off debts while increasing equity levels over time. Due to longer time horizons, accumulators typically invest in riskier portfolios to increase expected long-term growth.
Preservation
The preservation phase typically begins as an individual nears retirement age and will continue into retirement. During this phase, debt will be decreasing (eventually disappearing all together) while equity will be increasing. Your human capital will be much lower than in the accumulation phase as you have fewer years until retirement, while your financial capital will be higher from years of saving for retirement and additional goals.
The main goal for someone in this stage of life is to protect the assets they have been accumulating over the years. At this point, the focus switches from saving to preserving your hard earned assets so you can enjoy a stress-free retirement. Due to a shorter time horizon, the risk level of the portfolio will generally fall, becoming more conservative, focusing on more steady / less volatile returns.
Distribution
The distribution phase generally begins during the early years of retirement as people start taking withdrawals from their portfolio to cover living expenses amongst other needs. During these early years, the risk level of the portfolio will generally remain more conservative to provide more steady returns and reduce uncertainties. After the first few years of retirement, individuals become set within their lifestyle, with hopes of maintaining a net worth that can afford them to continue living comfortably.
As you progress through the distribution phase, the focus of the overall portfolio begins to shift away from the original client and towards the next generations. Estate planning becomes more imperative and gifting strategies are developed. At this point, a portion of the assets are now being managed for future generations, which in turn increases the time horizon, allowing for the portfolio to accept greater risk just as we saw within the accumulation phase (the portfolio has come full circle).
Each phase of life has its own unique characteristics, but this does not mean that each phase is mutually exclusive. On the contrary, these phases often blend together. Accumulation often runs over to preservation as you keep contributing money to retirement accounts while becoming more conservative near retirement. Similarly, preservation can run into the distribution phase as you continue protecting your assets while beginning gifting strategies for future generations.
Although there isn’t always a clear cut line, it is important for you to understand your general phase of life. This will assist you in picking the “best investments” to create a strong overall financial portfolio, which in turn will help you in reaching your ultimate goals.
Whatever phase of life you are in, we hope you have a great weekend!
Derek and Ben
Co-Founders and Owners of Aspire Wealth
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