Investing isn’t just about how much money you have to invest or where to invest it. A good investment strategy takes in another important component: Time.
What is the investment time horizon?
The time horizon for an investment refers to how long you will have the money held in the investment before you need the funds, whether for retirement or some other purpose, like a child’s college tuition. The length of time you’ll be invested will vary depending on the ultimate financial goal.
Where risk tolerance comes into the picture
Generally speaking, the longer the time horizon, the more risk you can take in the type of investment. If, on the other hand, you’re looking at an intermediate-term or short-term investment, you may want to take on less risk.
That’s because over the life of your investment, the stock market may make several downturns that result in losses. If you have a long timeframe, your investment portfolio will have an opportunity to recover, but if the amount of time until you need the funds is shorter, you may not recover any losses.
Investment types based on time horizon
Long-term investments: A goal that is 10 years or more into the future may incorporate a larger percentage of riskier investments such as equities or stock funds. There are two main reasons for this. First, these types of investments have historically generated the highest returns over the long term. Second, in the event of a downturn, your investments will have ample opportunity to recover.
Intermediate-term investments: If your goal is between five and 10 years away, then it may be worth looking at an investment mix including fewer stocks and more bonds.
Short-term investments: Short-term goals are considered those that are fewer than five years in the future. If your portfolio is overexposed to stocks and they take a dip, this relatively short timeframe isn’t long enough for your portfolio to recoup losses. Cash or cash-like investments, including money market funds, savings accounts, and short-term bond funds are often favored in short-term investment strategies for this reason.
Common mistakes when it comes to time horizon
Not switching from a long-term strategy to a short-term strategy in time: As you get closer to your long-term goal, your time horizon becomes shorter, possibly necessitating changes in your asset allocation that will reduce risk.
Failing to periodically reevaluate and adjust your portfolio to meet new goals: If your goals change or you add new goals, it’s a good idea to revisit both your investment horizon and asset allocation, then make any necessary adjustments to accommodate those goals.
Not having enough liquidity for emergencies, or vice versa: Sometimes investors think too far ahead, and neglect to have enough liquid money for emergencies, while others have far too much than they need for an emergency sitting in cash, rather than invested.
Need to ensure your financial planning and investment strategy is appropriate based on your financial goals, time horizon, and other factors? Ironwood Wealth Management can help. Contact us today.