Define Your Investment Objectives

Updated: Nov 9 2003, 05:30am hrs
Well-defined investment objectives can help us determine the right asset allocation for our portfolios that will enable us to achieve our financial goals. Because investment objectives are influenced by factors such as our financial background, needs, time horizon and risk tolerance level, we have different objectives. This is why the stock that you like may not be a good choice for me.

Discuss the following and other relevant factors with your investment adviser so that you both will be clear about your investment objectives:

What is your occupation You can load up your retirement portfolio with stocks, if you are a young doctor, but not if you are a stockbroker, whose income is affected by fluctuations in the stock market. How are your finances - your income, expenses, net worth, liabilities and taxes Do you have an emergency fund What is the make up of your current portfolio Do you invest with borrowed money What changes do you anticipate in your financial picture over the foreseeable future Of course, no one knows the future, but what is the most likely scenario Before you start to invest, pay off most of your credit card loans, and take care of your insurance needs.

Needs: What are your financial needs They may include saving for the down payment on your home or accumulating a college education fund for your kids, or amassing funds for your retirement living. Do you get the urge to speculate with your play money Estimate all your major short- and long-term financial needs, add them up, and specify deadlines for fulfilling them.

Time Horizon: If you cannot hold an investment for more than a year, you need to preserve your capital with cash-equivalents like time deposits. If you must cash in your investment within three to four years, you should consider buying short- and intermediate-term government bond funds. Where available, inflation-adjusted bonds can help investors preserve purchasing power. Was it not Warren Buffet who said that if you do not plan to own stocks for 10 years, dont even think about buying them for 10 minutes This is why younger folks can afford to favour stocks, while older folks may favour bonds.

Experience: What is your investment experience Do you know risk and reward patterns of different investments Stocks, as a group, produce largest gains over the long term, but their prices are not only very volatile, they can also remain down for years. On the other hand, bond prices can be more stable than stock prices, but then bonds do not produce as much returns as stocks. Do you get any hot tips Have you noticed how risky they can be

Tolerance for risk: Didnt Peter Lynch say you dont need brains to buy stocks, you need stomach Dont buy anything if its loss is going to ruin your sleep. But remember, the markets generally provide higher returns on riskier assets. Sometimes we are afraid to take a risk because we do not know how to put the risk/reward history of different assets in a proper context or we have not been exposed to risk control tools of diversification and options. Stock markets, despite sharp and long declines, have remained in an uptrend over the long term, benefiting from ever-expanding economies. However, it will be a big mistake to assume that the time will always bail us out of our mistakes.

Commitment: The secret of making money grow is not how much you begin with, but for how long you stay invested. It pays to be a long-term investor. Special factors: Let your adviser know your investment preferences and restrictions. You may like highest-rated bonds or you may not like to buy stocks of tobacco or alcohol companies, or the firms that are not shareholder- or worker-friendly.

Asset allocation: Ideally, all assets, of different risk/ reward characteristics, should be in your portfolio, because diversification is a good tool for controlling risk. How your portfolio is distributed between stocks, bonds, real estate, gold, and foreign securities will determine the expected return and volatility of your portfolio.

In practice though, most investors focus on how much to allocate between stocks and bonds. If you are young, bulk of your retirement account could be in good quality stocks, because you have time to recover from investment blunders. But, if ups and downs in stock prices upset your stomach, consider putting more money in bonds than in stocks.

On the other hand, a man nearing retirement may favour bonds more than stocks, even if he has the stomach for stocks. If your child is entering college within a year, keep that college education fund in time deposits, not in stocks or bonds. If the college is still five years away, keep that fund in suitable time deposits and bonds, but not in stocks. But if the baby is only three years old, bulk of that account can be in good quality stocks.

We get excited by superior results that may also be erratic. However, consistent results, that are often boring, deliver better growth in the long run. Asset allocation generally determines whether your results will be erratic or consistent.

Hopefully, in future, instead of saying that our investment objective is to make money, we shall say that we shall not take any risk beyond this or that level to make money. We have not discussed how to select individual securities and how to avoid the minefields in the investment arena, because your financial adviser can give you that help. It may not be a good idea to invest without defining investment objectives. However, dont forget that there are no guarantees in the investment field, where impossible happens regularly. Despite guidance from Noble Prize winners, the US Federal Reserve had to arrange the bailout of Long Term Capital Management who faced certain bankruptcy after its sudden humongous losses. When your decision turns out to be wrong, learn from the mistake, modify your objectives, and move on.

(The author is a retired investment adviser based in Pasadena, California, and can be reached at