Today’s investors are younger and more diverse than ever before. You no longer need grey hair and a sensible suit to talk about stocks and bonds – even if it’s a uniform that’s still good enough for Warren Buffet, one of the world’s most successful investors.
However, one thing all successful investors share is an understanding of what type of investor they are. This is an essential step towards taking control of your finances and realising your goals. Your identity as an investor is likely to be a complex mix of personal preferences, values and circumstances. These often evolve as we grow older and assume different roles and responsibilities.
Let’s examine six key factors that will influence your approach to investing.
How involved do you want to be?
Investing can quickly become a full-time job. If you have plans to be the next Warren Buffett, it’s likely that you already spend your time reading company reports, making cashflow projections and tracking developments in various industries. At the other extreme, perhaps you already lead a busy life and would rather leave time-consuming research to financial experts.
However, there is a middle ground. You can be involved with your investments without needing to dedicate every waking hour to research. Rest assured that even Buffet delegates some of his investment decisions because he appreciates that trusting others leaves him time to focus on his priorities.
Consider your hobbies. Perhaps you are a car enthusiast. You might love polishing and waxing your pride and joy on a Saturday morning, but if the engine starts smoking, would you fix it yourself or take it to a garage for repair?
Investing is no different. Some investors split their portfolios into ‘hands-on’ and ‘hands-off’ segments. The ‘hands-on’ portion allows them to explore their investment ideas (including short-term trading) while the ‘hands-off’ part has a longer-term focus and is delegated to professionals.
Know your risk limits
Your approach to investment risk depends on your circumstances and your personality. One thing is for sure: your investment returns will reflect the level of risk you take. Take too little, and you might be disappointed with your return; take too much, and you could lose more than you are prepared to tolerate.
If you consider yourself rather conservative, then government bonds and defensive stocks (those that hold up well in a crisis) will likely be the most suitable. Although you can still lose money with these investments, they will probably give cautious investors a smoother ride. More adventurous types might be prepared to lose a small proportion of their money in pursuit of higher returns. These investors are likely to favour higher-risk stocks and bonds.
Many investors prefer a balanced approach, combining a blend of higher and lower-risk assets to reduce the ups and downs. This is known as diversification and, in its simplest form, means putting your eggs in more than one basket. For example, you can diversify an equity portfolio by spreading your overall exposure over several industry segments, regions and investment styles. Then, if one region (or sector or investment style) falls from favour, the performance of your portfolio will be affected to a much lesser extent.
Establish your time horizon and your goals
Your time horizon significantly impacts the type of investor you are and is closely connected to your risk tolerance. Consider two investors, each with a million euros to invest, though at very different stages of life: one is an 85-year-old with no dependents, and the other is a 28-year-old with a young family. Both investors might have an appetite for risk, but their time horizons differ. The 85-year-old may choose a higher level of risk because their life expectancy is relatively short, and they don’t have children to consider. A younger person might take more risk because they have much longer to compensate for losses.
Although knowing your time horizon is important, it can be more helpful to consider your overall financial and personal goals. Many experienced investors look back to find that clarifying their goals was an important stage of their development.
Your goals should combine your attitude to risk and your time horizon, considering your circumstances, including your age and family situation. A 35-year-old with decades of employment ahead of them might want to grow their capital as much as possible and be prepared for a bumpier ride in return for growth. In contrast, a 60-year-old on the brink of retirement is likely to value stability.
Do you enjoy following the latest market news?
Knowing your limits is one of the most important considerations when determining what type of investor you are. Do you understand financial reports and listen to the latest economic podcasts – or do you hide your bank statements in a drawer and switch off when the business news comes on? You may find that talking with somebody who is passionate about finance helps you to better understand your circle of competence – a crucial insight for any investor.
Part of the secret is knowing how to block out the noise. In today’s 24-hour news culture, investors have never had access to so much information, and even the most experienced among us can sometimes struggle to focus on the long term.
Know your values and interests
Lastly, your approach to investing will be shaped by your personal preferences. Some investors might be interested in technology or biotech companies while others may want to gain exposure to specific countries. And purpose-driven investing is more popular than ever before.
Some of us may prefer a proportion of our savings to be invested in sustainable companies. Others might want to avoid specific industries or companies with controversial practices. Equally, some investors won’t feel strongly about where their money should be invested.
There are often no right or wrong answers. However, taking the time to reflect on your personal situation is an important first step towards becoming a successful investor. This also means thinking clearly and honestly about who you are: how will you handle the inevitable ups and downs, and how will you react to news – both good and bad? By establishing your goals and setting your preferences, you are giving yourself the best chance of a smooth ride. When it comes to investing, the more we learn about ourselves, the more likely we are to succeed.