While the market turmoil of the last couple of years has been different to say the least, those with sound financial planning have been able to weather the storm far better than most.  Moreover, they have experienced relative peace of mind which comes from planning for the unexpected as well as the expected.

Here is a list of ten financial planning fundamentals.  It is important to acknowledge that these principles may not apply to everyone depending on wealth, age, risk tolerance and other factors.  But generally they are a good checklist for your consideration.

1.  Take All Assets & Income into Consideration

The management of investment portfolios should be considered within the context of all assets and income sources including real estate, owned businesses, trust income, pensions, etc.   Other sources of income and asset appreciation are important to complementary management of investment portfolios.

2.  Determine Investment Time Horizon

The time horizon for investments is critically important.  Funds required for expenditure within one to three years should not be exposed to the stock market.  It’s too volatile, and the risk of having to sell investments at disadvantaged prices to meet short term needs for cash is too great.  At the same time, funds required for long term needs such as retirement living expenses and children’s education should be invested with a significant portion in equities.  Stocks may fluctuate in price, but they alone can provide the returns for long term expenditures while maintaining investment portfolio purchasing power to keep up with inflation.  The long term compounded annual returns for stocks have been about 10% compared to about 6% for bonds.

3.  Manage Investments to Maximize After-Tax Returns

It is important to manage investment returns on an after tax basis.  For clients who have both a retirement account and a taxable account, the location of income investments in the appropriate account is very important.  Many investors own income investments in their currently taxable accounts when it is more efficient to hold them in retirement accounts where taxes are deferred.

4.  Limit Planned Returns & Withdrawals to 7-8% & 4-5%

Savings and investment goals should be realistically set to provide investment portfolios sufficient to meet lifetime needs, with average long term expected returns on principal generally not exceeding 7-8% per annum and annual long term draws on principal generally not exceeding 4-5% per annum.  While there may be exceptions to these rules depending upon circumstances, they are a good starting point.

5.  Allocate Assets between Equity & Income Investments

Long term investment portfolios should have carefully selected asset allocations between equities and income investments, monitored over time.  Asset allocation is a dynamic process which changes with circumstances as people age and portfolios grow.  Generally speaking, the older the investor, the greater should be the investment in income securities for dependability of higher current yields and reduced volatility.  Today, with a 65 year-old couple, there is a fifty percent chance that at least one of them will survive until age 95, and that requires sound asset allocation planning.

6.  Diversify Investments to Reduce Risk

Investment portfolios should be well diversified to avoid the risk of too much invested in any single investment, no matter how good it may seem to be.  Too many eggs in one basket is never a good idea.

7.  Do Not Panic & Sell Good Investments at Distressed Prices

When an investment decreases in market value, it should be re-examined for selling, holding or increasing the investment.  Judging when to buy and when to sell based on market sentiment is impossible, and the vagaries of market timing are unfathomable.  Do not panic and sell good investments at distressed prices.

8.  Cover Catastrophic Risk with Appropriate Insurance

Catastrophic risks should be covered by appropriate insurance, particularly exposure to loss of earned income, exposure to medical expenses and exposure to liability claims.  Life insurance and disability insurance to cover loss of employment earnings, comprehensive health insurance to cover medical expenses for all family members and personal liability umbrella insurance to cover potential exposure to negligence lawsuits are all essential.

9.  Keep Debt Manageable at Low Interest Rates

Borrowing must be manageable, avoiding excessive servicing requirements and high interest rates, especially debt for which interest is not tax deductible.

10.  Carefully Prepare Life-End & Estate Documents

Everyone should have carefully and professionally prepared life-end and estate planning documents including a current Will, Advanced Medical Directive and Durable Power of Attorney.

Sounds simple, doesn’t it?  Well it is, but it is surprising how many investors do not follow these fundamentals of financial planning, many to their ultimate regret. Don’t be one of them!