What is your time horizon, and why is it important?

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A time horizon is a way of assessing your risk tolerance or risk capacity as an investor. In essence, a time horizon provides the answer to a critical question: When do you need this money?

Time horizon example

An investment goal that almost everyone shares is a comfortable retirement. The normal retirement age is 67, but let’s say you want to retire a little earlier at age 65. If you are 30 years old in 2022, your time horizon spans the 35 years from now to 2057. Early in your career, you will need to accept increased risk with your investments to accelerate your growth and feel comfortable enough to leave the workforce at 2057.

However, when thinking about retirement, it is important to recognize that you will need to think about another time horizon. You don’t need all the money on the day you retire. Depending on your health and family longevity history, your money may need to last about 30 more years. Bankrate Retirement Calculator It can be a helpful resource for understanding how long those retirement savings can last.

common time horizons

Since you have multiple goals for your money, you’ll be thinking about a variety of different investment time horizons at once. From working to buy a new car to planning to buy a vacation home, you’ll need to evaluate each of your goals with your calendar in mind. Here are three common time horizons.

short term time horizon

A short-term time horizon refers to money that you will need access to soon. An example of a super short term horizon is your emergency fundthat you can park in a high yield savings account either money market account.

If the unexpected worst-case scenario comes tomorrow, you will need your money immediately to cover some expenses. There are other financial needs that fit into the short-term horizon category, albeit with a slightly longer horizon.

If you are saving for a down payment on a house, you may want to reach your goal before the end of your rental apartment lease in 11 months. You can’t afford to lose value, but a bit of additional growth would certainly help. Maybe put the money in a short term certificate of deposit to take advantage of an increase in interest earnings.

Medium-term time horizon

What fits into a medium-term time horizon can vary depending on how you look at your goals, but these tend to be anywhere from five to 10 years away.

For example, if you’re saving for college for your 10-year-old son, you’ll need to start withdrawing money to pay for tuition over the next eight years. With a longer lead time, you can accept some margin of risk, but you probably have a mix of investments that do not leave you too exposed to large losses. For example, you can diversify your investments between stocks and low risk captivity.

long term time horizon

When you think about important goals further away from the present, you are operating on a long-term time horizon. As a younger investorretirement is the most obvious example of a long-term horizon.

If you are between 20 and 30 years old, you have decades of work ahead of you. The more time you have, the more you can bear the risks of loss in your investment portfolio.

Why it is so important to understand your time horizon

Knowing your time horizon is essential to outline an investment strategy that meets your objectives. The time horizon will dictate a very important distinction: the return of your investment versus return in your investment With a shorter time horizon, your attention is turned towards the return on it; You want to make sure that you can recoup your initial investment. For example, if you know you need the money next year, you don’t have a lot of time to make it grow, and you don’t have a lot of room to risk losing it.

However, if your time horizon is longer, you’ll be thinking about the common definition of ROI: a return on your money. The luxury of extra time will allow you to endure more volatility to chase higher returns.

How to determine your investment time horizon

Understanding your investment time horizon begins with determining when you will need this money. Bankrate Simple Savings Calculator It can give you an idea of ​​how much you would need to save over that time, with an average annual return, to accumulate what you need.

Remember that as your time horizon changes, so will your investment allocations. When the date you need your money is closer on the calendar, you will need to take a more conservative approach. For example, at age 25, your retirement has a long-term horizon. At age 60, the money you will need to withdraw in the early years of retirement will have a short-term horizon. You will focus less on growth and worry more about avoiding losses.

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