Last Updated June 16, 2015
Like most long-term projects, it’s important to have sensible goals when investing so that you have a final destination in mind at all times.
Setting investment goals
People invest for a wide variety of reasons, but it generally breaks down into either:
- a future lump sum or
- a future income stream
Then you can get into more detail with the SMART system:
Specific – Be as specific as possible. Perhaps you want a dividend income large enough to make you financially independent
Measurable – What gets measured gets done. For example, an inflation-adjusted after-tax income of £25,000
Achievable – There is no point going after a goal if it is not achievable. Using that example again, a £25,000 dividend income from a portfolio with a 4% yield will require a lump sum of £625,000. To decide if this is achievable you would then have to work out how much you can save and what sort of growth rate you can expect from you investments, with dividends reinvested (around 7% to 10% a year is a reasonable total growth rate for equities over the long-term).
Relevant – Is this goal really what you want? If you set a financial goal that is too difficult you may end up having to save every penny you can for many years, depriving yourself of things that would have enriched your life more than simply being financially independent.
Time-bound – A goal without a deadline is far less likely to be achieved. If you’re looking for a lump sum then your target date should probably be somewhere beyond 10 years from today. If you’re looking for a particular income then you might say, for example, that you want that £25,000 dividend income within 10 years. But of course that would depend on whether such a goal was achievable and relevant.
Using investment goals
Once you’ve nailed down your investment goals you should try to make sure that you actually use the goal.
In my case, my investment goals are on my computer and quarterly “reminders” pop up on screen to tell me to check how I’m doing against my goals.
An important secondary use for an investment goal is that it can help you stay focused on the long-term. If my goal was to have £1 million in real terms in 20 years then that time horizon can help me to cope with the ups and down of the market today.
If I’m invested in a diverse group of high quality market leading companies (either via the FTSE 100 or in a portfolio of stocks that I’ve hand picked myself) then what’s happening today should, in 99% of cases, not be important.
It might be interesting or worrying, but that doesn’t mean it’s important.
So let’s say the FTSE 100 is going to be at 15,000 in the year 2032. If the FTSE 100 was at 6,000 yesterday and fell to 3,000 today, what would that mean?
Most investors would interpret a 50% fall like that as a reason to sell. They would be panicking like crazy because the market had just collapsed by 50% in one day.
But to somebody with their eye fixed firmly 20 years into the future; what would it mean to them?
It would mean the market is now 50% cheaper than it was the day before, so the market will gain 400% between today and 2032 (a 12,000 point gain from 3,000 to 15,000), rather than the 150% it was going to gain from yesterday to 2032 (a 9,000 point gain from 6,000 to 15,000).
In other words, the long-term investor looking to the future would see that the market was far more attractive today than yesterday and might well start selling the family silver to invest in stocks, although it’s likely that friends and family would be screaming for them to sell the stocks instead.
The sign post, the weather vane and the siren calls of the market
Investing is very hard on the mind; that’s why most people are really bad at it once they move from being passive investors to active investors. The more attention they pay, the worse their results get because they tend to only have a short-term outlook and get bounced around by market noise.
As an investor it is far better to be a sign post than a weather vane. Sign post investors have a long-term goal and a consistent long-term plan to get there, and they stick to it no matter what. Weather vane investors don’t have a consistent plan, and instead get blown around and end up getting nowhere.
SMART long-term goals are a useful tool that investors can use to help them become sign post investors – pointed in the right direction, no matter what the market does, or what the media says.
In other words, long-term investment goals are a mast that sensible investors can tie themselves to when the market sirens start calling.