7 questions to ask yourself before you start investing

The 7 questions that you should ask yourself before you start investing

24 Nov 7 questions to ask yourself before you start investing

Where to start? How to start? What to buy? These are the common questions that people faced when they want to invest. Instead of answering all these questions, you should ask yourself the following 7 questions before you start any investment.

  1. What is your Risk Appetite?

Risk appetite is always the very first question that you need to ask yourself. Without understanding your risk appetite, you will put your investment in danger. Especially when the market is volatile, you may sell your investment at low value if the volatility exceeds your risk appetite.  Your risk appetite can be divided into 2 groups: your ability to take the risk and your willingness to take the risk.

Your ability to take the risk depends on your income and expenses. If you have a fixed salary and your salary is able to cover your living expenses, then you have high ability to take the risk. Also if you have sufficient free cash in bank, you are able to take higher risk. On the other hand, the willingness to take the risk is dependent on your personal behaviour. If you are a more adventurous person, your willingness to take risk is higher.

  1. What is your target Return?

You must have a target return that you want to achieve for your investment.  State the target return as specific as possible. For example, “to achieve 15% annual return” or “to achieve 5% higher than STI ETF”. You should calculate the target return based on your investment objective. If your investment objective is to achieve financial freedom in 10 years, you must calculate the amount of money you need for financial freedom and translate to the annual rate of return that you need to achieve.

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  1. What is your investing time frame?

Investing time frame is very important in investment. You need to ask yourself how long you want to invest? Similar to the target return, your investment time frame is determined by your investment objective. For example, if your investment objective is to buy a luxury house in 5 years. Then you should invest in those assets that can liquidate in 5 years time.

  1. What is your tax bracket?

Understanding which tax bracket are you in is very important in investment. You will not want your investment return be lowered because of tax.  Although in Singapore, capital gain and dividend income is tax exempted, some investments require  tax to be paid. One typical example is property tax. Countries impose different taxation on property and typically the tax is higher for the foreigners. You need to calculate the potential after tax return and not the before tax return before making any investment.

  1. What is your legal constraint?

Some investors are investing on behalf of other people or investing for a trust. There might be legal and regulatory implications for such investment. Also, company or government may impose restriction on certain investment. You need to check the constraints listed in the agreement before making any investment.

  1. What is your liquidity constraint?

Liquidity constraint is a very big factor in your investment strategy. It will affect the risk that you can take and your target return. You need to anticipate your cash flow need and make investment base on your cash flow need. Moreover, liquidity constraint also will affect your investment cost. If you need to have high frequency of cash flow, your transaction cost may be higher because of high frequency of transaction. You can choose to invest in fixed income asset that can match your liquidity need to reduce the transaction cost.

  1. What is your unique investment circumstance?

This is a catch-all question for anything that can affect your investment strategy. For example, you don’t want to invest in gambling businesses because of social responsibility. You may have large amount of money to invest, so you need to find investment that can allow you to invest without affecting much of the transaction price.

Conclusion

It is important to ask yourself these 7 questions before you start investing. It can be summarized into RRTTLLU (Risk, Return, Time frame, Tax, Legal constraint, Liquidity constraint, Unique objective). This is to ensure that the asset that you are going to invest suit your investment objectives and constraints (IOC). It is also advisable to write down these IOC so that you can remember it. Moreover, these IOC may change in the long run. You must go through these 7 questions again at least once in a year.



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