Impulsive action is not the right choice
Why take a long-term approach to investment? The answer is obvious: to generate higher returns! Taking the long view also reduces risk. A long-term investment strategy generally pays off, but it isn’t an easy option. You will need strong nerves and must stick to your guns in turbulent times.
A key argument in favour of long-term investing is the greater flexibility in the range of investment vehicles that can be used to boost returns. The investment solutions available, from investment fund savings plans to retirement schemes, offer greater diversity and potential when compared with a traditional risk-free savings account. Past performance cannot be used as a reliable indicator of future returns. However, a look at the historical performance of higher-risk investments shows that they generate more attractive returns over the long-term, notwithstanding temporary periods of decline.
Of course, market timing is particularly important when investing.
Of course, market timing is particularly important when investing. This refers to the moment at which you intend to enter or leave the market. Timing is crucial, including for long-term investments. Unfortunately, many savers start by investing much of their savings at once. They are not aware of the risk involved in market timing. If they invest at the right moment, they hit the jackpot. However, they may suffer significant losses if they invest just before a market downturn.
An investment horizon of at least five years is required when considering an investment in the stock market. Equity markets can be volatile and a long-term perspective ensures that investors are not obliged to sell following a sharp fall in the market, and can bide their time until prices recover. And this almost always happens – even if it sometimes takes a while and investors must be patient.
Irrational market behaviour
Equity markets tend to behave irrationally over the short term, but rather rationally in the long term. Overall, holding periods are getting ever shorter. This paves the way for opportunities for patient investors. As the true value of a company is not always reflected in its share price, investors can take advantage of any irrational price movements.
Many people invest with a long-term goal in mind, such as providing for their retirement, financing their children’s student fees or buying a second home. Panic reactions in response to short-term market fluctuations are simply a distraction from these goals. Anyone with a sufficiently long time horizon is unlikely to miss out on their goals because of a little volatility in equity markets.
You should always ask, what is the planned time horizon for an investment and what cash amount do you hope to realise at the end of this period?
Set clear objectives
You should always ask, what is the planned time horizon for an investment and what cash amount do you hope to realise at the end of this period? The answers to these questions are a good starting point in determining how much risk you wish and are able to bear. Yet this risk level should not be any higher than necessary.
Generally speaking, returns are higher the longer the investment horizon. However, this doesn’t mean that you should simply forget about investments once they are placed. Strategies focused on acquiring securities and holding them for a longer period of time generally prove more profitable. Investors tend to follow the crowd, selling in the hard times and buying in the good. You will reap the rewards of a patient approach. Being swayed by market movements or the investment environment can have a negative impact on long-term returns. The strongest price rises often follow hard on the heels of a significant fall, or on specific days. Investors who sell at the first sign of trouble tend to miss out on profitable periods and the chance of the value of their investments recovering.
The wonder of compound interest
The impact of compound interest is one of the most important factors in long-term wealth creation. However, in order to benefit from this effect, investors must leave their investments alone for dividends to accrue and profits to be reinvested.
Costs also play a role, since every euro paid in fees reduces any future returns. The compounding effect works in reverse in this case, as the impact of any costs incurred continues to grow over time. The best way of keeping costs down is to make investments and hold onto them, rather than constantly buying and selling.
Key investment issues
We would like to preface our support for long-term investing by saying that every financial decision requires an appropriate period of consideration. Impulsive action is unwise. Investors must also be certain that any money invested for the long term will not be needed earlier. To be certain of this, you should ask yourself the following questions:
- How much can I save each month?
- What medium-term projects do I have, for which I also need to budget?
- Do I have enough liquid assets besides my investments to cover the cost of unexpected events?
Once that has been clarified, you need to define the level of risk that you are willing to accept.