6 Financial Planning Steps: Follow the Right Order

The Six Steps of Financial Planning

Get the steps right, avoid being misled and stop making financial decisions blindly.

Two kinds of social-media posts appear frequently. A show-off post attracts private messages from people asking to be taught how to make money. A post about being cheated attracts self-proclaimed online experts offering advice. People join in enthusiastically, sharing their own experience or stories they heard elsewhere.

Whether you are posting or reading, do not simply follow the crowd. Treat all such information as reference only.

A situation I often see

I ask a client: "Why did you choose these products?"

The client answers: "I did not know what to buy, and I did not really understand what I bought. Someone said it was good, so I followed."

This resembles different kinds of money games. The packaging changes, but the deception continues in another form. If Bank Negara Malaysia or the Securities Commission has not approved something, it is already a clear warning. But what about regulated investment tools that hurt people because they followed blindly? They may then say that the product is a scam. The "product" could mean insurance, savings insurance, funds, shares or almost anything else.

After one bad experience, some people classify everything as a scam and become afraid to act again. But at the root of the problem is human nature: we tend to follow others. This is the herd effect.

The important step is to recognise that weakness and use the following six financial planning steps to resist it.

1. Assess your financial position

To borrow a line from The Art of War, "Know yourself and know your opponent, and you need not fear a hundred battles." Investors read a company's financial statements to understand its position. You need to understand your own financial position in the same way.

This shows whether you have enough emergency savings, whether too much is being spent in one area and where other problems may exist.

2. Set financial goals

Experience tells me that many people will simply say their goal is to earn more money. But there is never an upper limit to wanting more money, so you can end up running around without direction and exhausting yourself.

A financial goal should describe what money will bring you. Separate goals into short-, medium- and long-term goals. Money itself is only a tool for reaching them. Examples include an emergency fund, a home down payment, overseas travel, a child's education expenses and retirement savings.

Clear goals point you in the right direction and remind you why you should keep going, especially when you face setbacks.

3. Prepare a budget and cash-flow plan

Monitor money coming in and going out. Separate the different kinds of income and expenses so that you understand your spending and saving habits more clearly.

Then review and improve them continually, including setting aside an amount for investing towards your financial goals.

4. Understand your risk tolerance

Everyone has a different ability to accept risk, so you need to consider how much loss and volatility you can tolerate before choosing an investment tool.

Being too conservative can also become a risk if it prevents you from reaching your financial goals. Consider whether the return offered by an investment tool is capable of supporting the goal.

5. Create and carry out the financial plan

Calculate how much your financial goal requires, the target return needed and a reasonable time frame. Only then should you look for the corresponding investment tool.

Besides the initial amount, plan how much needs to be set aside each month for the goal. At a minimum, understand what you are investing in. A deeper understanding is better, but you should at least know the basics.

6. Review and adjust the financial plan regularly

Financial planning needs to continue over the long term, and reviewing the plan regularly is essential.

As you move through different stages of life, your plan must change with you so that you can continue working towards your financial goals.

The order matters

Have you noticed that you often jump straight to Step 5 and buy a financial product? The amount spent on insurance or investing may also be only a rough guess.

Financial planning has an order. It is not too late to start following these six steps one by one.