FOOL'S EYE VIEW
The Three Keys To Investing

By Stuart Watson (TMFTiger)
May 28, 2002

Yesterday's Equitable Life AGM was yet another stormy affair. It's also a reminder that none of us can afford to relax and just assume that our financial affairs will fall into place without any effort. To my mind, there are three key lessons to be learnt from the Equitable fiasco.

Simplicity

You should be able to understand the basics of how your investment works. If it's a unit trust, you know that you put your money into a fund and then it joins a pool of money from other investors. It is up to the fund manager to decide where to invest the money but, at any time, you can see the value of your investment and get it out.

Compare that to black-box investments like with-profit policies. Very few people understand how they work. In fact, as the Equitable story shows, even the companies that run them often have little idea! All this talk of 'solvency requirements' and 'recognising future profits', if you've been following the latest news on Equitable, just has no place in any sort of sensible investment product. The FSA today announced its plans to make with-profits policies more transparent. Whether these proposals will have the desired effect will take some years to establish. 

If a product can't be explained simply and clearly, the chances are that it is just an accident waiting to happen. It should be avoided at all costs, never mind how slick the sales patter is. The fact that the fund manager has a double-barrelled name, a nice pinstripe suit and looks rather clever in the accompanying brochures is just not enough.

So take a look at each of your major investments and ask yourself if you really understand how they intend to make money for you over the long term.

Diversify

No matter how well you plan, the unexpected can always knock a hole in your finances. This is why it's important not to entrust your entire financial affairs to just one investment company. Say you're a fan of trackers. As you build up a retirement pot, you'll probably want to invest in 5 or 6 different tracking funds along the way. That way, if the unexpected does happen it won't result in a fatal blow to your finances. There is no denying it will still hurt though.

You can even take this a step further by building a cushion into your finances. If you invest more than you think you'll need, then you'll be able to absorb some disappointments along the way without having to alter your planned lifestyle. That's not to say that such things will always happen. The key thing is being able to cope with them if they did, by being pre-emptive rather than just reactive.

The proviso to this is making sure you don't increase your costs too much. It's no good investing £20 a month into five different trackers if each of them costs £1 a month to invest in. Investing in a different fund in each tax year is likely to be a much more cost-effective option.

Keep On Top

You don't need to micro-manage long-term investment plans but you do need to give them a regular review. An investment plan is like a super-tanker. Small adjustments to your course can make a big difference to where you end up. But once you're significantly off course, you can't just simply do a quick U-turn to get back on track.

Assuming that everything will just work out all right is a very dangerous option. There is no autopilot option with investment. If you just invest a regular sum each month and then don't check up if you have enough until you are about to retire, the chances of getting a nasty shock are very high indeed. In fact, at the moment it's reckoned that around half the pension pots converted into annuities are valued at £10,000 or less. That's not even enough to generate a retirement income of £1,000.

So make a point out assessing where you are with your finances. In fact, that's one of the central themes of our new Tax Return Workbook. Financial planning doesn't require much effort, but it is something that only you can really do.

Get the Fool's new book, the Tax Return Workbook, here.