Novice investors: Nine personal finance rules to obey before you invest

As the cost-of-living crisis tightens its grip on household expenditure, saving pots are being eroded by runaway inflation and recession talk is in the air. It’s no surprise then that despite the volatility in the markets in recent months, people are on the hunt for better returns for their money.

Those familiar with the world of investment are already well versed in the benefits of a well-diversified investment portfolio – namely that it can be an inflation-busting strategy over the long term.

While higher returns from the markets can never be guaranteed, a long-term approach of more than five years should allow your investments to absorb the highs as well as the lows and deliver positive growth with a better chance of beating inflation in the process.

But before new investors dive into the markets, Alice Haine, personal finance analyst at investment and coaching platform Bestinvest, says novice investors must get their immediate finances in check first.

“There’s no point investing your hard-earned money in the stock market if you are struggling to meet rising household bills, have outstanding debts and no back-up funds set aside for emergency expenses,” Haine said.

“Not having the basics of personal finance sorted leaves you very exposed if life throws an unexpected curve ball and you need to dip into your newly invested funds to meet that expense. Instead, get your finances into a solid position so that you can explore capital markets without the fear you are leaving yourself short elsewhere.

“Ultimately you want to invest money you don't need to touch for the next five to 10 years, or ideally longer, to give that invested capital time to grow, rather than having to raid that pot to fix a broken boiler.”

Here, Alice Haine offers a nine-step guide to the personal finance rules novice investors should consider before they start their new investment journey.

Steer clear of the markets if you have outstanding debts on credit cards or expensive loans. The interest rates you are paying on any short-term debt may be higher than the rate of return you secure on investments, so clearing credit cards, payday loans or expensive loans should generally be a priority.

If you direct money towards investments before you have cleared your balances, you risk missing payments, which will then incur penalty fees, affect your credit profile and make it harder to access credit in the future.

If you are still building up fresh debt, it means you are overspending on your monthly expenses and need to trim your outgoings. Even if you are already repaying your balances, wait until the debt is under control or cleared entirely before you consider investing.

A sizeable emergency pot ensures you can absorb any sudden shocks to your personal finances and don’t have to dip into your investments. While three to six months’ worth of expenses is the typical minimum recommended to be held in an easy-access savings account, Bestinvest coaches advocate a more solid buffer of at least 12 months' expenses.

Yes, that savings pot may be eroded by rampant inflation, but it is vital to have an accessible lump sum of cash to cushion the blow of any sudden changes in your personal circumstances such as job loss, ill health or a large, unexpected expense such as car repairs after an accident.

Before you go-it-alone on a DIY investment platform, look at contributing to a workplace pension plan. Thanks to auto-enrolment, introduced by the Government in 2012, most workers already pay into a scheme because they are automatically signed up by their employer.

But some choose to opt out, sometimes to increase their monthly income now rather than pay into something that will reward them later in life. Taking your foot off the pension pedal is a mistake because regular monthly contributions from an early age can swell your retirement pot at a much faster rate, ensuring you enjoy the comfortable retirement you always dreamed of.

Plus, saving into a workplace pension comes with the gift of free cash from the Government in the form of tax relief – which we believe is one of the best ways to keep pace with inflation. Tax relief is automatically granted on taxpayers’ pension contributions at 20% of the amount going in, while higher rate taxpayers can claim back an extra 20% and additional taxpayers an extra 25% of the sum deposited – ensuring your pension pot gets an inflation-beating bump up.

For those that opt out of workplace pension schemes to pay into a private pension instead, those tax reliefs are still there, but the risk is that you stop making payments when times are tough. While missing one payment is okay, missing two or more can turn it into a habit – a move that will be very costly later in life. The secret to effective pension investing is to invest on a regular basis before you make any other investments so having that process automated through your workplace removes the temptation to hold back payments.

Before making any major financial decision, you must have a firm grip on household finances to ensure you are not only meeting your regular bills but also have money spare for short-term savings goals such as annual holidays, car upgrades or household renovation projects.

Building a budget is a straightforward process that involves adding up your total monthly expenditure, something you can do by checking bank and credit card statements, and deducting that from your net take-home pay - the amount that hits your bank account after income tax, National Insurance and your pension contribution have been taken out.

This process provides a clear idea of what you spend on and how much you have spare to save and invest for your goals. It will also identify any areas where you are overspending so that you cut back to free up more cash for your savings and investment goals.

Once you know how much you spend every month, you also want to plan your finances for the year ahead, making sure your budget can absorb the higher energy and food bills expected in the coming months as well as factoring in your new investment strategy.

There’s no point starting an investment journey if you have no idea what you are doing it for. Whether you want to finance a child’s education, pay for a wedding, save up for a deposit for a house or fund a retirement, setting a clear goal pays off.

Once you know what you want to save for, then you can align an investment timeline to fit in with that strategy.

Saving for a holiday for example is a short-term goal with any cash built up for that purpose best kept in an easy-access savings account because you will typically use the money within a year. A child’s university education or funding your retirement are long-term goals more suited to investing in the markets.

Recent research from Bestinvest [1] found that 80% of investors think that investing with a life goal in mind and tracking their path towards achieving that target, leads to more successful results.

This is because goal-based investing helps to focus the mind on a timescale and the appropriate amount of risk to hit a financial target.

Before dipping your toe into the world of investment, it can be good to get a second opinion from a qualified financial professional to make sure you are on the right path.

Financial coaching is growing in popularity in the UK because unlike advice, where an adviser spells out what an investor should do with their money and makes specific recommendations, a coaching session aims to empower those seeking help to make their own investment decisions.

Coaches can provide guidance on whatever query novice investors have during their investment journey – from identifying financial goals and how they might achieve them to helping them assess their tolerance to risk and understand how fees and taxes are applied or the difference between active and passive investing. Coaches can also offer reassurance for those with existing investments on the performance of their portfolio in a falling market.

During a typical coaching session, the financial planner will run through some key questions, such as what type of help the person is looking for, what goals they are seeking to achieve and what financial decisions they have made so far.

Coaching can also be much cheaper than paying for advice, with Bestinvest’s 45-minute coaching service, for example, one of the free services of this kind in the market [2], as other providers charge rates varying from £60 to almost £300.

Once you’ve chatted to a coach, you should have a clearer idea of your timeline, attitude to risk and what you want to invest in. Another thing to consider is how you want to invest your money.

For DIY investors, this means choosing your investment vehicle, whether it’s a straightforward investment account with an investment platform through which you buy stocks and funds or a Self-Invested Private Pension to top up your workplace and state pensions.

Another option is an Individual Savings Account that lets you invest up to £20,000 per tax year without paying tax on any gains. If you are saving for your child, you can also invest up to £9,000 per tax year in a Junior ISA. Alternatively, invest up to £2,880 in a Junior SIPP and you can build up a surprisingly large fund for when they retire.

The markets may appear a little topsy-turvy for the appetites of nervous first timers, so it is also wise to decide whether to invest lump sums or smaller, regular amounts.

A good starting point for new investors can be to drip feed money in smaller amounts into their chosen investment, either monthly or quarterly, no matter what the price is at the time.

This strategy not only makes people disciplined about investing on a regular basis but also minimises risk by ensuring they continue to invest during the lows, when equity prices are cheaper, and the highs.

It also gives novices time to understand the markets, helping them adapt to the rise and falls that come with investing and ensuring they don’t panic when markets drop suddenly.

As you begin your investment journey, the main breadwinner should ensure the household finances are not only robust enough to meet their own immediate and future needs but also those of their dependents.

To achieve this, first make sure you have all the relevant insurance policies in place to protect your income and that of your family. Critical illness insurance and income protection are two types of policy to consider if you suddenly become ill and cannot work.

While critical illness insurance pays out a lump sum if your health is hit with a condition covered by the policy, income protection will pay a healthy percentage of your salary if you are suddenly unable to work. Both policies can help to prevent you dipping into investments if you suddenly become unwell and cannot earn.

Separately, life insurance will help loved ones clear any outstanding mortgages and pay the bills after your death. That way they won’t have to raid investment accounts straightaway, leaving that money ring-fenced for the future whether it is to pay for a child’s university education or retirement.

Another vital document is a will to ensure your assets are directed to the right people after you die. Choose the beneficiaries before you start investing such as your spouse or partner and children if you have a family, or extended family and friends if you are single.

[1] Bestinvest’s Life Goals Study surveyed 2,000 people across the UK between the ages of 18 to 65+. The survey was carried out by global market research firm 3Gem between May 13 to May 18, 2022.

[2] Bestinvest offers: Bestinvest’s 45-minute coaching sessions are now open to anyone who needs help, support or information on their financial planning or investment objectives – whether they are an existing Bestinvest customer yet or not.

To redeem the offer, simply log onto the Bestinvest website and click on Book a coach, which will take you directly to a calendar where you can select a time and date that suits you. For customers, there are no limits on the number of free sessions.

Bestinvest is also offering a free Portfolio Health Check or Investing for Your Goals advice for customers that transfer more than £50,000 to the platform. To redeem this offer, existing and new customers must deposit or initiate a transfer of £50,000 by August 31, 2022. Once a £50,000 transfer has been made into a Bestinvest investment account, the customer can choose between one of two advice packages.

The first option, Investing for Your Goals, normally worth £295, will see a financial planner talk through an investor’s goals, establishing what the customers wants to achieve and the level of risk they want to take, before recommending either a Ready-made Portfolio or a blueprint for creating their own portfolio. Ready-made Portfolios are professionally managed to suit different risk profiles and invest across a wide range of funds, which are rebalanced regularly and adjusted to reflect the outlook. The range includes low cost and sustainable options.

The second option. a Portfolio Health Check, worth £495, will see an investment manager review a customer’s existing investments and then make suggestions to ensure their portfolio is still on track to hit their goals and accurately reflects their attitude towards risk.

By necessity, this briefing can only provide a short overview and it is essential to seek professional advice before applying the contents of this article.

This briefing does not constitute advice nor a recommendation relating to the acquisition or disposal of investments. No responsibility can be taken for any loss arising from action taken or refrained from on the basis of this publication.

Investment does involve risk. The value of investments and the income from them can go down as well as up. The investor may not receive back, in total, the original amount invested. Past performance is not a guide to future performance. Rates of tax are those prevailing at the time and are subject to change without notice.

Clients should always seek appropriate advice from their financial adviser before committing funds for investment. When investments are made in overseas securities, movements in exchange rates may have an effect on the value of that investment. The effect may be favourable or unfavourable.