Fixed Income Alternatives for Your Defined Saving Goal
Everyone knows they should have a saving goal, but this doesn’t necessarily make it any easier to do so, especially if you’re on a fixed income.
The Basics of Setting Your Saving Goal
Setting a saving goal is important, but it’s even more important to know how to set one effectively. Fortunately, it’s fairly easy.
First, start by deciding on the actual amount you need. What is it you need the money for and how much will it take?
For example, your main goal may be to set yourself up for retirement. This will probably mean about 25 to 30 years you need to cover.
It’s okay to have more than one goal too.
You may want to save for retirement and your child’s college tuition. We’ll cover this a bit more in depth in a moment, though.
Second, consider where you’re currently at. How much do you have for investing? Will that number change in the future?
You might have kids or buy a home, which could take away from the amount you can invest.
Alternatively, you may predict that you’ll be making substantially more within the next five years.
After you have these two things figured out, the next step is simply deciding what investment options—and it may be more than one—will help you hit those goals.
Finally, once you invest and start working toward your goals, be sure to check in regularly.
You may find you’re falling behind your goal, which isn’t the end of the world so long as you make necessary changes to modify your plan appropriately.
What if I Have Conflicting Goals?
This is natural. Having a saving goal means that you’re making a big change to your life which could cause conflicts amongst other goals.
For example, you might want to get in shape, which means having a gym membership or a personal trainer. Are those things necessities?
Maybe not, but they may still be high priorities in your mind.
If you discover this kind of conflict, think hard about which goal will cause the most amount of harm if you don’t reach it. That’s the one that should be your priority.
There’s no simple answer here and, a lot of times, it will take some serious thinking before the answer becomes clear.
At most, you should only have three financial goals. Having just a few will keep you focused and working toward them.
Why Bonds Work Best for Goals with Defined Time Horizons
A well-diversified, bond portfolio plays an important role in your overall investment strategy, regardless of the market environment. Benefits such as protection of capital, income generation, and diversification can make an investment in bonds an attractive option for investors.
However, the most important benefit of bond investing for those who save money with defined time horizons who need to cash it out at some point in time in the future is the feature of the “maturity.”
Unlike bond funds, individual bonds are paid back at maturity. Regardless of what happens with a bond price during a holding period, investors must receive a nominal value of the bond at maturity unless an issuer is insolvent.
You might want to put money into a laddered portfolio of investment-grade corporate bonds. A laddered portfolio is comprised of several bonds. Each position in the portfolio is usually the same size as the next while the intervals between maturity dates are approximately equal.
Longer term bonds will provide you a higher yield. Bonds with shorter term maturities will provide you an opportunity to re-invest in higher yield bonds in the future.
A laddered portfolio helps to spread reinvestment risk over the long term which, in turn, will help to average out the effects of overall interest rate increases.
Over time, switch from ladder strategy to bullet strategy. Do it five years before your defined time horizon is completed. This means that the latest date of maturity of all bonds should be just before when you need your money back.
Individual bonds are way safer than stocks, yet constantly provide returns above saving accounts. Use the power of compounding and you could double your money in the next 15-20 years with less risk than investing in a stock market.
Remember, while you hold bonds to maturity, your portfolio is immunized from volatility caused by various market forces such a rise in interest rates or credit risks. Only the risk of default should be managed by diversification.