What is goals-based investing and how can I make it work for me?
Choosing the right investing strategy matters when shaping your financial plan and a goals-based approach offers a new take on growing wealth. But what is goals-based investing exactly?
“Goals-based investing focuses on reaching life’s goals versus trying to get high returns on an investment portfolio,” says Sandy Yong, a Toronto-based speaker and author of The Money Master. “The approach is structured so that an individual has tangible and specific goals that they want to achieve.”
These can be short-term goals, such as building an emergency fund or purchasing a new laptop, or long-term goals, such as saving for college or planning for retirement. The beauty of a goals-based method is that it’s all about fulfilling individual investors’ needs. What comes next is a primer on what goals-based investing is and how to use it in a way that works for you.
What are the benefits of goals-based investing?
Traditional investing and saving strategies tend to focus on one of two things: Beating the market or keeping pace with it. The priority is hitting a target rate of return.
Goals-based investing offers a different take. Instead of zeroing on numbers, this wealth management strategy is all about investing with specific, measurable goals in mind. That doesn’t mean what happens in the markets doesn’t matter. But investing by putting goals first looks at the bigger picture and takes into account the unique life priorities of an investor.
Goals-based investing can also provide an incentive for investors to stick with the plan. A 2021 University of Stirling study found that households with four or more savings goals held more than twice as many stocks as households with no savings goals. This led researchers to conclude that setting goals can make you a better saver.
How do you prioritize multiple goals?
Using a goals-based approach to investing and financial planning may mean that some goals take precedence over others if you’re not in a position to fund all of them at once. Yong says that it helps to consider what your goals are first, then categorize them as short-term, medium-term, or long-term. From there, you can prioritize them according to which ones are most urgent and align with your values.
Yong offers an example of what this might look like in action. “If you’re with a significant other, you may want to save for a down payment on a house so you can move in together,” says Yong. “That may be a higher priority than going on a vacation to a tropical destination since settling down in a nice neighbourhood will bring more fulfillment.”
In this scenario, you’re putting a longer-term goal ahead of a shorter-term goal, as saving for a down payment on a home could take more time than saving a few thousand dollars for a vacation. But the payoff is that purchasing a home can bring stability, potential cost savings if it’s cheaper than renting, and the opportunity to build wealth as the property appreciates over time.
If you have short-, medium- and long-term financial goals, consider the time horizon you’ll need to complete each one. Also, factor in how much money you’ll need to fund each goal and how much you can afford to contribute toward each goal monthly or yearly.
How do you decide how much to save and how often?
If you’ve prioritized each goal on your list, the next step is figuring out how much to save for each one. A percentage-based approach can make it easier to divvy up savings.
So, say that you have four distinct savings goals:
- $10,000 for emergency savings
- $2,000 for a vacation
- $50,000 for college savings
- $1 million for retirement
Of the four goals, the emergency fund takes top priority for the short term. Once you finish that goal, you plan to prioritize vacation savings, then retirement, then college. You can afford to save $2,000 per month collectively toward those goals. So your savings percentages might look like this:
- 50% to emergency savings($1,000)
- 10% to vacation savings($200)
- 30% to retirement($600)
- 10% to college savings($200)
At that pace, you’d reach both your $10,000 emergency savings goal and your $2,000 vacation savings goal in 10 months. You could then choose a different percentage split, say 70/30, to save for retirement and college respectively. If you want to set a new savings goal, you’d just need to readjust your percentages accordingly.
3 questions to consider while creating your savings plan:
1. How committed are you to adding to your savings?
Saving money is a physical act but there’s a mental and emotional component to it as well. Adopting the right money mindset is important for sticking with your savings and investment goals. Prioritizing savings also leads to higher levels of financial well-being and lower levels of financial stress.
So consider how often you’ll save, e.g., weekly, monthly, bi-monthly, etc., and how much you can realistically save each time. Setting up automatic deposits into a savings account or registered account can make it easier to follow through.
2. Can you foresee any time you may need to access savings before you achieve your goals?
Whether you’re saving for short-, medium- or long-term goals, it’s important to have a contingency plan. For example, you might be saving for a down payment on a home but an injury could leave you out of work. You may need to dip into your house fund savings to pay the bills if your emergency fund runs out.
Keeping your money in the right place can help to minimize the blow. For example, you might keep some of your savings in a regular savings account and some in a redeemable GIC. This way, you could earn a higher interest rate with the GIC but have the option to withdraw some of the money early without paying a penalty.
3. Do you plan to use income gained from investments? And, if so, how much over what time period?
Investments can produce income through dividends, interest, capital appreciation, or a combination of the three. What you have to consider is how you’ll use that income.
For example, dividends produced by stocks or mutual funds could be a source of current income. You could use those dividends to pay day-to-day bills. But if you don’t need that income right now, you could defer drawing on it until you retire to help fill the gap left by the loss of steady paychecks.
If you need help deciding how to make the most of your investment income, don’t be afraid to ask for it. “Savers may want to consider working with a financial advisor to help keep track of their goals and stay accountable,” says Yong.
For more ways to save, try Money Chat, a free online tool from Coast Capital that can help you reach your financial goals. Plus, check out Coast Capital’s personal finance blog, The Help Hub, for additional resources.