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Once upon a time, I was only focused on two things: Savings and Investments.
Savings
I think most of us especially when we are just beginning to earn are inclined to put our hard earned money in banks usually in the form of fixed deposits. There is nothing wrong with this practice if not for INFLATION.
In Economics, inflation is a rise in the general level of prices of goods and services over a period of time. Simply put, a liter of gasoline now is around 50 pesos whereas 5 years ago, it was averaging at 42 pesos. I can still remember enjoying a chickenjoy meal at Jollibee for 100 pesos back in the days when I was still working at the Port of Manila, but now 5 years later, a chickenjoy meal will cost you 150 pesos. That is a whopping 50% increase in price and sadly a reduction in buying power on my part. This is the reason why I am not recommending you put all your money in banks.
A general rule to follow is 100 minus your age. Say you are 30 years old, that means 70% of your money should be deployed in an investment vehicle that will at least give a return of 7% per year. Why 7%? Because inflation in the Philippines is around 4%-6% on average per year, hence, you should target to outperform that. Note that this is just a guideline, you may follow a different model that will suit your appetite for risk and reward but personally, I follow such principle.
Investing
When salary comes at the end of the month, I used to invest everything in the stock market and mutual funds. This is what I used to do and then I realize that nothing is left. One day it occurred to me, what if there is an emergency? Will I be liquid enough so that I don’t touch my savings and investments? Am I sufficiently insured? Are all my dependents protected? Is my Family secured? I may have some savings and my investment portfolio may have been properly diversified, but if my cash position is inadequate to tide myself or my family over during the rainy days, then I am facing a huge risk of liquidating my investments. And selling an investment in a depressed market is a big NO.
What is the right model then?
Insurance-Emergency Funds-Savings and Investments
Insurance
I am never a big fan of insurance until I realized the true cost of my responsibility. To calculate your insurance requirement, all you have to do is multiply your current income by 12 and multiply it again by 10. Example, current income 100,000 x 12 = 1.2 million x 10 = 12 million. This means that 12 million is the insurance amount that you need to protect your monthly income in case you are unable to provide it. Why 12 million? It is based on the assumption that the 12 million will be deposited by your family in an investment that can earn 10% per year giving your family in this example an annual income of 1.2 million or 100,000 per month.
Emergency funds
A good rule of thumb would be 3-6 times of your monthly income. If your income is too high, you can begin with 3 months. This is something that you will use in case you lose your job or for whatever reason, the monthly income stops.
Savings and Investments
I personally believe that for as long as you are properly insured and liquid enough to cover any emergency, you may save and invest whatever the surplus is. A universal rule in personal finance is allotting 20% of your total income into savings and investments. Of course, the bigger the number, the better.
One day when your savings and investments are in millions, you will not be needing an insurance. But for the time being, while your savings and investments are growing, protect it with an insurance.
Thank you for reading this post and I hope you will share it with your friends.
Anselm Reyes
PS. If you have questions about investing in the stock market and mutual funds or anything about personal finance, you may email me at anselmreyes@yahoo.com
