How being a financial ‘Olympian’ is the route to investment success

When considering personal finances, it’s natural to focus on maximising returns and adopt the Olympic motto “Citius, Altius, Fortius” or “Faster, Higher, Stronger”. That’s a noble ambition, but all the athletes we are watching this summer in Paris and beyond must put in the necessary groundwork, which often goes unseen.

Sports men and women go through years of training and practice. They also prepare meticulously to minimise the risk of getting injured. They can only fulfil their dreams if they stay in the competition, which means going as far as they can to avoid disruption

Build the foundations to success

It’s a similar story when it comes to our finances. To thrive you must first survive, and there are things to consider even before you get off your marks in the investment ‘race’. A prerequisite is being able to preserve the process of compounding – staying invested and earning returns on your returns – over the longer term. This means drawing up plans and laying foundations before building the house.

The most important part of any plan is expecting the unexpected. Uncertainty, randomness, and sheer luck, good or bad, are just facts of life. Building in contingencies and flexibility, just as athletes stretch and limber up before competing, will result in greater resilience to a wide range of potential problems.

While risk-taking and hard work tend to be rewarding, it also pays to be risk averse to anything that can lead to catastrophic loss.

You don’t want to have to sell investments or, even worse, borrow money in the event of an emergency such as an urgent car or home repair. That’s when having an emergency fund to cover life’s unexpected twists and turns really counts.

How much to keep as an emergency fund is going to depend on circumstances such as how secure your employment or self-employment is, your ongoing expenses, and the various things that could realistically happen unexpectedly.

As a rule of thumb, you also should keep enough to pay your essential expenses for three to six months in case of unemployment or ill health. You should be able to cover costs like energy, mortgage or rent, travel and food costs. That way should the unexpected happen, you’ll be ready.

With an emergency fund you’ll need to make sure the money is easy to access. You can earn a decent interest on this balance in a savings account by shopping 12 around, but don’t be tempted by a fixed-term interest rate or accounts with long notice periods. Money locked away for a year is no use when you need cash quickly.

There are additional building blocks to your financial security if you have started a family. Taking out the right financial protection helps to ensure your family’s finances are taken care of should the worst happen.

If you are employed, you may have some of these often-essential policies, such as life insurance and critical illness cover, provided for you as part of a benefits package. However, you should check the details of each policy and the level of cover to make sure they provide enough support for your circumstances.

The policies that are right for you depend on your situation, including whether you have a mortgage or if you rent, and whether you have a partner or children. A financial adviser can recommend the ones that suit your needs. The common considerations are life insurance, family income benefit, critical illness cover, and income protection.

Keeping a cash reserve in your business can help with the inevitable bumps in the road you will face. However, that’s not always possible and it may be a case of keeping borrowings and interest rates as low as possible.

In addition, having the right insurance policies in place is crucial to safeguarding the company’s future. With appropriate protection in place, you’re in a stronger position to focus on what matters for the business.

Setting the right investment pace

Once the preparations are done it’s time to consider the competition tactics. Taking the right approach is vital to getting a good result. For instance, aiming to win the investment marathon by setting off at breakneck speed won’t generally end well even though it might offer a tantalising early lead.

That’s what uninformed investors buying into more speculative areas tend to end up doing, even if they do have a good initial streak. Even the best speculators risk running out of road. Instead, the time-honoured investment principles of diversification and the compounding of modest, positive returns over long periods tend to ultimately win out, passing and lapping the short termer over time.

It’s an easy trap to fall into, though, especially given the siren calls of social media can drown out rational thinking. For more impressionable or novice investors there is even greater danger. It can be hard to work out who to believe. Some ‘finfluencers’ simply make sensational claims or have extreme views to win followers.

Social media networks can generate considerable ‘confirmation bias’, a psychological behaviour where individuals disregard information that contradicts their beliefs. That’s potentially dangerous for investors. A dogmatic opinion of an economic trend or asset can lead to an imbalanced view, and to downplaying risks or missing opportunities.

The reality of investing is more prosaic but ultimately lucrative. As investment maestro Warren Buffett put it, “It is not necessary to do extraordinary things to get extraordinary results.” Success can come from those who are consistent and avoid unnecessary risks. The highest returns are usually very difficult to find, and probably involve a fair amount of luck, so it’s very difficult to produce them beyond a flash in the pan. Instead, aiming for pretty good returns, regularly and for a long period of time, can be hugely effective and offer a much higher chance of success in building long-term wealth.

That’s largely thanks to the power of compounding and avoiding being tempted to chase the highest short term gains. Rather than go all-out in a short sprint, running your own race and generating lower, but more reliable returns for a long period is a surer way to financial freedom.