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Personality and Investment Decisions

personality-and-investmentPersonality and Investment Decisions

People who find themselves suddenly having to make significant investment decisions often feel overwhelmed, confused, or even afraid. They fear making costly mistakes which could jeopardise their financial futures. In most cases, fear stems from lack of information, understanding or experience which undermines confidence in making the right decisions. These emotions can bring about the very thing that is feared – that is, costly mistakes. Learning to invest is a bit like learning to ride a bike. When you first get on a bike, never having ridden before, your fear of falling off means you ride slowly with your feet ready to touch the ground, so you are much more likely to fall. Once you learn to proceed confidently with your feet firmly pushing the pedals, you have a quick, smooth ride with a low risk of falling.

Fear can lead to procrastination of decision making, or inertia. The cost of not making an investment decision or delaying it is the opportunity cost, which is the investment return that could have been achieved if the decision had been made earlier. Fear can also lead to panic decisions after an investment has been made, which can result in actual loss or in opportunity cost.

On the other hand, some investors are over-confident which means they take on high risk that can lead to disastrous consequences. Somewhere in between are those investors who stick to a narrow range of investment options they are familiar with and who lack the confidence to step outside that range. This means their investments can lack diversification resulting in increased risk or opportunity cost.

Investors often behave irrationally, without logic or reason, driven  by emotion. In the words of author Jason Zweig, “Investing isn’t about beating others at their game. It’s about  controlling yourself at your own game”.

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Putting Financial Plans into Action

Financial PlansPutting Financial Plans into Action

There is a big difference between knowing the right thing to do and doing the right thing. Just ask anybody who is trying to lose weight or get fit. There are endless books, websites and seminars that provide all the information you need to have the body of your dreams. In the majority of cases, the information does not produce long lasting results. When it comes to getting your financial affairs into shape, it is no different. In fact, some of the worst people at managing money are highly educated, financially literate professional people on high incomes. The principal reason they struggle to manage money successfully is that psychological factors get in the way. Everybody has a different relationship with money based on a host of underlying feelings and emotions. Childhood experiences of living in either poverty or luxury can impact on your relationship with money and whether you value, respect, fear, or even loathe money. Past experiences of significant financial loss or gain can affect your attitudes towards taking financial risk. Personality issues can also have an impact. For example, excessive spending is often an antidote for low self-esteem or depression. Being able to manage your financial affairs well is a combination of financial literacy and fully understanding your relationship with money. Financial literacy alone is just not enough. Once you understand the psychological reasons why you have difficulty managing money you can use techniques to manage them. Set goals for your life before you set financial goals, as a way of understanding your purpose for accumulating wealth. Write down your goals and share them with others who will hold you to account for achieving them. Set up your banking to manage your income, expenses and savings automatically. Changing your financial outcomes means putting your financial plans into action.

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Squeeze Your Budget

SqueezeSqueeze Your Budget

We are at the time of year when financial pressure is at a peak and every dollar needs to be used wisely. Before the mad Christmas rush, take some time to look at simple ways of cutting your costs and tweaking your income to free up spare cash for the holiday period. All it takes is some creative thinking, a willingness to try doing things a different way, and some time spent researching the best deals.

Take a look at your bank accounts. There is a great variety of types of accounts with different interest rates and fees. Make an appointment at your bank to discuss the options available and what would work best for you based on your spending and saving patterns. To compare interest rates and fees between banks, click here.

Consumer has two great cost comparison tools available. At Power Switch, you can find the best deal on power based on your usage patterns and at Tel Me (currently being redeveloped) you can research the best deal for phone, TV and internet. Life and health insurance quotes from a range of major suppliers can be obtained free of charge at Trade Me’s Life Direct website. Before you cancel an existing insurance policy, get advice from a broker.

After your mortgage or rent payments, food is your biggest cost and a key area to focus on for savings. Be clear about needs and wants when shopping at the supermarket. Saving 10% of your food bill can be a significant amount.

Other more creative ideas for saving include making better use of libraries and the internet instead of buying newspapers and magazines, using trainee students for haircuts and beauty treatments, and buying clothes from upmarket fashion recyclers. There is plenty you can do with a little imagination and time spent online.

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Prepare for Working Less

FishingPrepare for Working Less

While most of us say we can’t wait for retirement to be able to do all the things we’ve always wanted to do, the problem is how to fill in the thirty years or so after retirement. For some people, the prospect of giving up work creates a fear of loss of identity and loss of purpose in life, so they keep working well beyond the age when they should retire. This can create a problem for employers and co-workers who have to deal with the drop in work performance that inevitably comes with old age.

Research has shown that retirees who cease to contribute and to be productive and active, die earlier than those who continue to engage fully in society. However, being productive and active doesn’t necessarily mean continuing to work. It’s important to keep all aspects of your life in balance all through your life; that is your finances, home life, health, relationships, leisure time and your purpose in life. If work has taken priority over friendships and relationships with family, it is going to be much harder to fill the vacuum left by stopping work because relationships take time to build. If hobbies, sports and other leisure time activities have always been part of your life, it is easy to spend more time doing these things to take the place of work as a meaningful activity.  A balanced working life makes the gap left by stopping work smaller and easier to fill.

Cutting back on work hours over a period of a few years is a good way to transition into retirement. It allows you to gradually fill your non-working time with other meaningful activities, to adjust your living costs gradually to a lower level of income, and to save more for your later years.

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Peer-to-Peer Lending is Here

AgreementPeer-to-Peer Lending is Here

The core business of a bank is to gather up funds from investors to lend to borrowers. By charging borrowers a higher rate of interest than is paid to investors, the bank makes a margin which covers its costs and provides a healthy profit for its shareholders. The concept of peer-to-peer lending is to provide a marketplace where investors and borrowers can get together directly. That way, it is possible for investors to earn a higher rate of interest than a bank will offer and for borrowers to pay a lower rate of interest. In theory, it is a win-win for investors and borrowers.

Peer-to-peer lending services must be licensed by the Financial Markets Authority and follow certain regulatory requirements. The service is usually provided on a website and operates as a kind of matching system. Borrowers complete an application form online stating the amount and purpose of the requested loan. They must also provide personal financial information. The peer-to-peer lending service performs a credit check and assigns a credit rating to the borrower. Approved borrowers are listed anonymously on the website and investors can then select borrowers to lend to. The investor’s funds can be split among several borrowers so as to reduce risk. Funds are repaid by borrowers directly into the investor’s account.

For borrowers, the key issue to consider is the fees that are charged, especially in the event that the borrower is not able to keep up the repayments. Investors pay a management fee to the service provider and must consider the risk of not being repaid their capital or the interest owing and the risk that they may not be able to cash in their investment before the maturity date of the loan. For further information see information from the FMA here or from Harmoney (the only licensed provider) here.

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Be a Secret Saver

SavingBe A Secret Saver

Financial success comes not from a high income or a high level of education; it comes from the application of just one golden rule. It is that easy, yet that hard. There are five simple words in the golden rule, yet they are the most difficult words to put into practice. Those words are ‘Spend Less Than You Earn’. Some of the most highly educated, high income earners have the greatest difficulty following this rule and, at the end of their working life, find themselves financially far less successful than those on modest incomes who have learned how to put money aside on a regular basis.

The majority of the working population has the potential to save, but whether that is turned into reality will depend on attitudes towards life and money. Saving is a behaviour that is underpinned by psychological factors.

It is interesting that for those who have enrolled in KiwiSaver, the compulsory deduction of at least 3% of their pay each payday has been a relatively painless way to save and, now that KiwiSaver balances are building to quite large sums, the benefits of regular saving are clear to all. Most people are surprised at how quickly their own contributions have mounted up over time. Therein lies the key to how to Spend Less Than You Earn; and that is to be a Secret Saver.

A Secret Saver is someone who sets up a regular transfer each payday into a savings account that is hidden out of sight, out of mind – in other words, not on your list of internet banking accounts and preferably with a different bank than your other accounts. That takes care of the psychological factors. Saving then happens automatically and painlessly and there is no temptation to spend what you can’t see.

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Know Your Rights When Borrowing

CreditKnow Your Rights When Borrowing

Borrowing money is something that is often done at a time when emotions are running high, whether it is the joy of finding a dream home or the desperation of needing money to pay for unexpected expenses. Looking at the fine print of a credit contract can easily get overlooked at these times. It is therefore important to understand your rights under the various Acts of Parliament that protect borrowers. Your principal protection comes through the Credit Contracts and Consumer Finance Act, 2003, which is currently undergoing a major review.

Under current legislation your basic rights include:

  • Creditors must tell you the truth.
  • Any fees including administration and default fees must be reasonable.
  • You have the right to repay early
  • The contract can’t be harsh or oppressive
  • You can cancel in the first few days
  • You can ask to change your payments if you suffer unexpected hardship.

More information on your rights is available in a booklet published by the Ministry of Consumer Affairs called ‘Credit: What you need to know when borrowing money or buying goods on credit’, which can be downloaded here.

The Consumer Credit and Financial Services Law Reform Bill, which has now gone through its third reading in Parliament, introduces a wide range of changes, including:

  • Introducing a Responsible Lending Code for lenders
  • Better disclosure of loan terms and extending the ‘cooling off’ period for borrowers
  • Lenders must provide free of charge their standard form contract terms and costs of borrowing
  • Preventing goods from being repossessed unless they are specifically identified in the credit contract
  • Licensing of repossession agents and employees.

It is hoped that these changes will prevent unscrupulous lenders from preying on desperate people.

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Be a Confident, Objective Investor

confidenceBe a Confident, Objective Investor

The key to being a successful investor is to learn to overcome the emotions of fear and greed and make sound investment decisions based on objective analysis. Fear can lead to financial loss through missing out on opportunities to make a good return and through panic which can result in selling investments at the wrong time. On the other hand, greed can result in financial loss through poor analysis of the risks involved. Good investment decision-making requires objective analysis of potential risks and returns with a balanced view that is neither overly optimistic nor overly pessimistic.

Objectivity starts with determining your goals and objectives and the time frame for achieving them. If you have long term investment goals, don’t get distracted by short term changes in the market. Your strategy may need occasional fine tuning but if it has been well thought out, you shouldn’t need to make major changes.

Review your attitude towards risk and ensure your investment strategy is a good fit. When things are going well in investment markets it is easy to take on more risk than you should. Find the right balance between risk and return so you can achieve your goals while taking an acceptable level of risk.

Stay diversified. Markets can change quickly, and moving all your investments into one asset class increases your risk. Evaluate all the options you have. This might mean getting more information from an expert who you trust. Stick to the hard facts such as you would find in an annual report or investment statement and consider the trustworthiness and track record of the people involved.

Confident investors have a long term plan that they stick to; they do their research, they aren’t swayed by emotions such as fear or greed, and they are successful at building wealth.

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Buying Property with a Low Deposit

dream-house-for-sale-signBuying Property with a Low Deposit

The world economy is still reeling from the effects of the Global Financial Crisis, and one of the major elements of this catastrophic event was a huge increase in lending on residential property by American banks to people who had a low deposit and low incomes. The increased lending fuelled property prices, and when the inevitable property crash occurred, financial institutions and borrowers were left facing huge losses, causing economic instability. To prevent such an occurrence in New Zealand, the Reserve Bank is considering putting restrictions on the amount of lending done by banks where the lending is more than 80% of the value of the property. This arrangement is likely to prevent banks offering second mortgages where the total borrowing is over 80% of the property value.

First home buyers will be most affected by these changes. The Welcome Home Loan Scheme supported by Housing New Zealand is a low deposit scheme which is excluded from the restrictions, however there are strict eligibility criteria for these loans.

Being a member of KiwiSaver gives a good head start towards finding a 20% deposit. After three years of membership you can withdraw your KiwiSaver funds, excluding the Government kickstart and member tax credits, for the purchase of a first home. You may also be entitled to a first home subsidy of $1,000 for each year of KiwiSaver membership up to a maximum of $5,000.

Another strategy is to ask your family to use their home as security for part of the loan. The advantage of this approach is that it enables your family to help you without having to give you cash for a deposit. It does, however, involve a certain amount of risk for your family as they will be relying on you to make the mortgage payments on time.

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Checklist for Retirement

Checklist for Retirement

One of the strange things about life is that the older you get, the faster the years seem to go by. It pays to get your affairs in order at retirement so the rest of your life will be free of problems, especially if the effects of ageing come faster than you expect. Here is a checklist of some of the things you should attend to at retirement:

  • Is your Will up to date?  This is especially important if you have had a chance in circumstances such as a new relationship or death of a partner or child.
  • Have you granted Enduring Powers of Attorney to a family member or close friend? These will enable your chosen Attorney to make decisions and sign legal documents on your behalf in the event that you become mentally incapacitated.
  • Is your money invested appropriately? Your needs may have changed from investing for growth to investing for security and income. Tidy up your portfolio by selling off any small holdings, especially small overseas investments that could be time consuming to sell for the executor of your estate.
  • Have you reviewed your life insurance? Your life insurance needs in retirement should be minimal. Old whole of life policies can be earmarked for funeral expenses or possibly converted to endowment policies so you can enjoy the proceeds while you are still alive.
  • Have you reviewed your estate planning? Alternative options for the ownership of your house and investments should be considered, such as joint ownership, tenants in common, or a family trust.
  • Are your important documents filed away in an orderly fashion where they can be easily found by family members if anything happens to you?

Attending to these matters will give you peace of mind in later years.

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