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Educational Programming Video

The Value Line Mutual Fund Survey
Program 13: Financial Planning Part 2

In our last session we discussed a starting point. Issues such as how much money you have now, how much you earn, and how much you can afford to save. But, no plan is complete without figuring out where you want to end up. You can't plan a trip to Disney if you don't know if you are heading to California, Florida, or even France. In short, your starting point is nice, but it's useless without a destination.

Before an investor can consider long-term financial goals, it is essential that you establish minimal protection against financial emergency. Most financial planners recommend keeping an adequate cash reserve in highly safe, liquid investments, such as a savings account or money market fund. (Although most investments can be converted to cash, doing so on short notice could result in losses.) The amount of money to set aside varies according to individual circumstances; a rule of thumb is six months' living expenses.

Once adequate reserves are established, an investor needs to consider and plan for specific goals. For a young couple these may include marriage, children, or purchasing a home. Couples with children may wish to prepare for college expenses. And, most individuals will want to prepare for retirement. In realizing any of these goals, mutual fund accumulation plans are especially helpful, since they encourage regular, disciplined saving. Though individuals' situations and life experiences vary, most investors' lifetimes can be divided into four broad phases: early years, family years, pre-retirement, and retirement.

We're going to briefly discuss each of these stages, you must decide which one you best fit into. After that, you can begin to formulate your long-term goals.

The early years encompass the period from when an individual starts his or her first job until marriage and family responsibilities and expenses begin to dominate. Many young people fail to recognize the importance of saving during this period because there are so many short-term pleasures to be pursued and desires to be satisfied. Reasonable goals during this period might include saving to purchase a car or home or to start a family. Young people often incur low living expenses and, in the case of many couples, benefit from two incomes. Most have no major responsibilities. These circumstances are ideal for beginning a serious, long-term investment program. Perhaps most important is the very long time horizon of young investors, so that even small, regular investments have an excellent opportunity to grow significantly. Young individuals and couples also can afford to assume above-average risk, since they have ample time to recoup any temporary losses.

During the years in which one's family is growing, other financial concerns often take precedence over regular saving and investing. Supporting a comfortable lifestyle for a spouse and children, protecting the family should an income earner die or become disabled, and preparing for the children's college costs are important during this period. Because time still is on the side of the investor during these high-expense years, it is important to continue to save and invest regularly, even in small amounts. Building retirement assets through an IRA or pension plan is also very important at this time. As long as adequate cash reserves are maintained, investors can afford to take above-average risks during these years—particularly with retirement-plan assets—in pursuit of long-term growth.

The pre-retirement period is critically important for consolidating retirement goals. For many "empty nesters" the mortgage is paid, and family income is at a peak. Now is a good time to accumulate additional financial resources for retirement. As retirement nears, however, there is less time to make up for investment losses. Accordingly, individuals in this phase need to gradually reduce their risk exposure. To a large degree, foresight and diligence during the first three phases of one's investment "life" lead to financial independence in retirement—the final phase.

During retirement, the overriding concern is income, since the payouts from a pension plan and social security are substantially less, in most instances, than the income earned from employment. Conservative, income-producing investments are highly appropriate at this stage since losses of capital can directly impact one's standard of living, and there is little time to recoup any losses. For those who have more than they require to maintain a comfortable standard of living, estate planning is an important consideration. Trusts can protect the value of an estate from taxes while preserving the individual's control over investment decisions.

Take some time; think about what you have just heard. Most importantly, however, think about what you want in life. Next time we'll talk more about your life goals and how you can reach them.

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