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Understanding risk

Most investors fear the effects of Capital Risk, which is the possibility that you will lose some of the money you originally invested. We all know that stock market investments can rise and fall.

This means that, although the long-term trend might be upwards, at any particular time the market can dip, so the value of your investment will reduce.

However, the risks that affect all your plans are often overlooked. Taxation and inflation affect deposit accounts, investments, your income and ultimately your lifestyle.

Tax Risk?

The tax you pay is detrimental to your savings, investments, income and even continues to affect your estate on your death.

  • Do you know how much tax you pay?
  • Do you know how tax reduces the value of your bank and savings accounts?
  • Do you claim available higher rate tax relief for your pension contributions?
  • Have you made a Will and is it up-to-date?

Answering these simple questions could highlight the fact that you are paying unnecessary tax simply because of the perceived complexity of the Inland Revenue.

If you own your own business, whether partner, sole trader or Director, the list of questions becomes longer and the effect of poor planning even more detrimental.

Inflation Risk

Inflation is the word we use to describe the constantly rising cost of living and has the effect of eroding the value of your money over time. Put simply, the pound you spent last year would not buy the same this year. To overcome this effect, you need to make sure your savings and income rise at least as much as inflation to maintain your lifestyle, let alone improve it. For example, consider the effect of inflation and tax on a 'high' interest savings account paying 4.75% interest per year:

 

Interest 4.75%
Less 20% savings tax at source 3.8%
Less inflation at 2%* 1.8%

 

Just to clarify, for every £10,000 in the current economic cycle, your money is growing by a 'real' value of £180 per year. If you are a higher rate taxpayer, you will receive even less.

Investment Risk

Each type of investment carries it own particular advantages and risks. Diversifying your investments helps to reduce your overall risk and provides a balance between potential returns and risk.

Your portfolio needs to be considered in the following terms:

  • Have I chosen the same type of funds for all my policies, leaving me exposed to the same holdings?
  • Have you created a spread of alternative assets (shares, property, cash etc)?
  • What Global markets are you exposed too?
  • What Sectors are you exposed too?
  • Does the type of investment suit your timescales?

Understanding the sectors is normally the work of your fund managers, as they have access to the analysts to monitor industries. However,many investors chose the Internet too heavily during the late 90's and found that the industry you invest is a key factor to financial success or failure.

Good planning will improve your financial health; today, tomorrow and throughout your life.