Having faith that all will be well in the future is a key part of financial planning as well as successful investing. You need to believe that humanity will continue to progress and that stock markets will continue to recover, even when short-term volatility is severe.
Looking back over historical trends, you can find plenty of evidence that optimism of this nature makes financial sense. Indeed, we encourage our clients to adopt an optimistic approach in their financial planning because we’ve seen the positive impact this can have on your long-term wellbeing.
It’s important to note, though, that there are limits to the level of optimism that is helpful. If you ignore rationality in the process, optimism can cause you to make unwise decisions. In some cases, this could even hinder your ability to achieve your goals.
Unrestrained optimism can lead to unwise decisions about your investments
Even though optimism can be an important factor in creating long-term success for your investments, there is a risk that, left unchecked, it could lead you to make unwise decisions.
The challenge for investors is that you need to be able to believe two contradictory ideas at once – both supported by historical data – in order to make the most sensible decisions for the long term. These are:
- For most people, the world is improving day by day, for the most part.
- Sometimes, bad things will happen to people without warning and through no fault of their own.
This is why it’s important to balance optimism with rationality. Blindly believing that everything will work out well can mean that you fail to prepare for the risks that you face. This might include neglecting to keep an emergency cash reserve or forgetting to set up appropriate financial protection.
We’ve seen this attitude negatively affect plenty of otherwise robust financial plans.
It’s important to balance optimism and caution
All this is to say that optimism alone isn’t enough to create a financial plan that supports you in achieving your long-term goals; your optimism needs to be balanced with caution.
This might include some of the following actions.
Underestimate potential growth
By taking a more conservative estimate of potential growth, you allow for underperformance without it affecting your overall plan or ability to achieve your goals.
This might mean that you’ll need to make larger regular contributions to your investments. Though this can mean reducing your discretionary spending, it seems like a worthwhile measure for long-term protection against the effects of potential underperformance.
Understand the risks that could affect you
Another step that can help you to exercise an appropriate level of caution in your financial plan is to assess and prepare for the risks you could face, no matter how unlikely. By preparing yourself and your finances for any possible disruption, you can create valuable peace of mind for yourself and your family. You could also minimise the disruption caused if the risk does come to pass.
Build up emergency cash reserves
Emergency cash reserves can be another helpful way to balance optimism with prudence. It’s not usually sensible to keep a significant portion of your wealth in cash, because interest rates rarely keep pace with inflation.
That said, keeping a small fund of at least six months’ worth of expenses is sensible to ensure you have an easily accessible pot to cover emergencies or to draw on during market uncertainty.
Your financial planner can help you to identify and protect against risk
Being cautious at the planning stage could help to ensure you’ve adequately prepared for any potential risks.
Once your financial plan is in place and you have taken appropriate steps to protect your finances against these risks though, we believe that adopting a more optimistic approach can be beneficial.
Your financial planner can help you to identify the unique risks that you face and create a plan that addresses these risks. They can also provide support over the long term, ensuring that the steps you’ve put in place continue to offer adequate protection, even if your circumstances change.
With this safety net in place and an optimistic outlook for the future, you can feel confident in your ability to achieve your financial goals.
Read more: Why it pays to remain optimistic, even during market uncertainty
Get in touch
If you’d like to know more about how we can help you to create a financial plan that protects you against risk as you progress towards your goals, please send us a message today.
Either contact your financial planner directly, email us at hello@ascentawealth.com or fill in our online contact form to organise a meeting and we’ll get in touch.
