It is important to be methodical when it comes to planning your investments. The general principle is that an investor must maximise the return for a given level of risk; but an investment plan should also fit an individual's, or a family's, circumstances and be psychologically acceptable.
As a result, due to these personal preferences and differing attitudes towards risk, it is very rare for two individuals, in the same circumstances, to invest identically.
The role of the investment adviser is to delineate the important aspects in an individual's circumstances around which an investment plan ought to be built and to suggest securities which could be used to achieve the individual's objectives.
I have put together a list of factors which you may wish to consider in planning your investments:
1. What to invest in and where
Today, exchange controls on investments have practically been removed and a person can invest anywhere in the world. This has led to a great expansion in the types of securities being offered and in financial services in general.
The choice available to the investor is wide indeed and ranges from money funds and bank accounts to derivatives and alternative investments investing in art and antiques.
More and more, globalisation has given the consumer the power to invest around the world.
Certain rules and practices still differ between countries and markets but, in general, there has been a lot of standardisation.
Cross-border investment is today much easier and funds, for example, invest globally from the same place so an investor need not bother with different stock exchanges unless he or she wants to invest directly in shares and bonds.
There might still be some restrictions as to location. These restrictions often stem from tax laws which might tax certain securities more advantageously than others.
For example, certain funds listed locally qualify for a 15 per cent tax while others which are unlisted have to pay up to 35 per cent tax. Even here, globalisation and the rise of supra-national institutions means that pressure to harmonise and standardise tax laws is increasing.
One has to have an idea, therefore, of what type of instruments one would like to consider for his or her portfolio and what is out of bounds for tax, personal preference, or other reasons. It is important to tell your investment adviser how you feel about different securities.
Some clients, for example, want to invest only in so-called "ethical funds". The managers of these funds do not invest in companies which produce what they deem to be unethical products, which usually include such things as tobacco and armaments.
An investor should read about and study an investment. Many people buy a car after reading loads of material but invest in a share just on rumour.
2. Amount to be invested
The larger the amount of the lump sum or regular savings available, the more one can diversify and the more instruments available. Certain investments require a minimum sum to be invested and may be out of reach of the smaller investor.
Sometimes, the type of investment makes it uneconomical for the fund manager to accept small amounts. At other times, regulators impose a high minimum in order to protect the small investor. When you see a high minimum investment, ask about it.
3. Income, capital and taxes
The tax implications of an investment must always be ascertained before one invests. The tax aspects of investments is becoming more complex and exacting.
The same type of security may be taxed differently, depending on where it is registered or regulated.
Tax incidence may also differ depending on whether one is getting gains in the form of income, such as a dividend, or in the form of capital gains. One can also have personal reasons to prefer income to capital gain or vice versa.
These reasons may vary from the innocuous - preferring income to have a supplement to one's pension - to the obscure: a person may wish to transfer wealth to his heirs rather than to the persons he happens to be living with and so opts for capital gains rather than regular income.
In investment tax planning, an investor should also consider losses, not just gains. Losses are bound to occur at one time or another.
How will the losses be treated for tax purposes? Would they be lost or carried forward into another tax-year? What sort of gains (income versus capital gains) can the losses be set off against?
4. Attitude towards risk
Individuals have different risk profiles. Some investors are very risk-averse and are comfortable investing only in low risk securities, such as good quality government bonds.
Other investors do not mind taking on some risk. Indeed, there are investors who have such an appetite for risk that it often proves difficult to rein them in.
In well-functioning markets, the return one gets from a security is proportional to the risk assumed. While this can serve as a guide, keep in mind that there are many exceptions.
An important tool against risk is diversification. Diversification, however, should not be taken to the extreme.
It is important to limit the number of your investments in order to be able to monitor them properly.
It is also important to achieve balance, and not diversify blindly. An investor and his adviser should examine how each of the investments complements the portfolio or otherwise.
It is also important to examine how the performance of one investment is related to the performance of another.
Psychologically, an investor should consider his portfolio acceptable. An investor should understand his or her portfolio and be happy with it.
Part Two will be carried in two weeks' time