This is the final part of a four part series on how to invest your money.  The main focus of this series of articles is to discuss the psychology of investing, how to get started, finding your strategy, and building your portfolio.  I hope this can be a resource for many people who are looking for information on how to invest their money.

Building Your Portfolio

After you have assessed your risk tolerance and created your investment goals with a clear strategy in mind, it’s time to start building your portfolio.  A

gain, depending on what is right for your situation you will either be looking to build a wealth based or an income based portfolio to live off in retirement.  Every investment portfolio starts with the very first contribution, but there are a few key points to consider along the way to achieving your financial freedom.

Contribute What You Can Afford

Before contributing to any investment account you need to ensure that all of your high interest debts have been completely paid off and that you are not spending more than you earn.

One of the best ways to determine how much money you can afford to invest each month is to make a forecast of income and expenses.  Don’t feel that you must save a certain percentage of your salary (i.e. 10%), especially when you are just getting started.

Contribute what you can afford and then try to increase the percentage each year.

Related: Why Do We Save?

By contributing equal amounts to your investment portfolio each month, more shares are purchased when prices are low and fewer shares are purchased when prices are high.  This dollar cost averaging approach should give you a lower overall cost per share over time.

Some experts criticize the dollar cost averaging approach as a marketing gimmick by the mutual fund industry, and that investors are better off timing their purchases when overall prices are low.  While this may be true, it is easier said than done.  The best time to buy is when others are pessimistic, but in the beginning you should just focus on building your portfolio through regular contributions.

Prioritize Your Accounts

When setting up your long term goals, you will likely determine which investment accounts to prioritize.  With so many options competing for your savings (RRSP, TFSA, RESP, Non-Registered Account) you need to prioritize your accounts.

If you are in a high income tax bracket it makes sense to invest predominantly inside your RRSP to maximize your tax refund and allow your contributions to grow and compound tax free.

On the other hand, if you are in a low income tax bracket, or if you have a defined benefit plan it would likely be more advantageous to contribute to your Tax Free Savings Account first.

Only after you have maxed out your RRSP and/or TFSA accounts should you be looking at investing in non-registered accounts.

Finally, ensure that your own finances are looked after and your retirement plan is set-up before saving for your child’s education.  Your child’s education is important, but not at the expense of your own personal finances.

In a perfect world, an investor should maximize their investment opportunities each year by doing the following:

• Contribute 18% of income towards their RRSP (to a maximum of $22,970 in 2012)
• Contribute $5,500 towards their TFSA (annual contribution limit)
• Contribute $2,500 towards their RESP (in order to receive maximum annual grant of $500)

Getting Diversified

When deciding on the right asset allocation for your portfolio it’s important to review your goals and your tolerance for risk.

If you are just looking to preserve your capital and you can’t stomach the volatility of the market, it would serve you best to hold safer fixed income investments such as GIC’s and bonds.

For the average investor, a few index funds representing Canadian equity, U.S. or Global equity, and Canadian bonds should offer enough diversification for your portfolio.

There are many investment products available that represent a number of different asset classes and sectors.

The whole point of diversifying is to smooth out your returns over time and lessen the impact of peaks and valleys in the market.

Just keep in mind that there is a danger in over-diversifying your portfolio, where curbing your downside risk is also stifling your potential upside.  The result is a stagnant portfolio where one side is up and the other side is down.

Measure Your Performance

You need to measure your investment performance regularly to ensure that your results are aligned with your investment objectives and that you are still on track to achieve your goals.

Most index investors simply want to achieve market returns, minus fees.  More active investors may have other benchmarks that involve achieving a specific rate of return.

Regardless of the approach you take, measuring results is a critical part of reaching your goals.  Once you evaluate your portfolio, make any necessary changes to keep your investments on the right path.

By understanding your investment goals and becoming more active in your own financial planning, you can grow your investment portfolio safely and steadily.

I hope you enjoyed this series on how to invest your money.

There are a lot of differing opinions about how to construct a long term investment plan – some go for a fixed total amount (indeed this option is the backbone of advice from financial institutions who have a clear interest in gaining large deposits), others want sufficient income for financial independence that will not reduce their capital.

Wealth-Based Investing

One million dollars was always the target for a retirement account and today it probably is considerably more.  This option allows for a 4% withdrawal rate on the total financial assets each year.

This means you need to save roughly 25 times your expected annual expenses.  Thus $1M allows you to withdraw $40,000 per year and $2.2M will give you $100,000 per year.  Disadvantages of this plan are:

• You need to start early in life, or contribute a great deal more of your income in later years to amass the target amount by your retirement age.  For example:  Assuming an annual return of 8%, 21 year old Dayle can contribute $167 per month for 44 years, but 40 year old Jamie needs to deposit $815 monthly for 25 years for the same grand total.  Interestingly, if the rate of return drops to 5%, Dayle’s deposit climbs to $525 and Jaime must come up with $1,660.
• It’s difficult to accurately predict variables such as investment returns, rate of inflation, tax rate, unforeseen future expenses, and health and longevity, especially the further away you are from retirement.
• A severe market downturn can drastically erode capital in your stock or mutual fund portfolio just when you need it.  As a precaution, many people close to retirement convert to a fixed income portfolio but will then lose the greater growth potential of equities.
• If the funds are held in a RRSP or RRIF the total amount withdrawn is taxed at your highest tax rate, as is interest from fixed income sources.

Income-Based Investing

On retirement, employment income must be replaced.  Unless you are fortunate enough to receive royalties from a creative endeavor, this usually means supplementing income from a defined benefit plan or defined contribution plan with investment income.

A rule of thumb is to receive 60% to 80% of pre-retirement income.  Disadvantages of this method are:

• You still have to amass a fair amount in order to have sufficient capital to earn the interest or dividend amount you require.
• Good quality blue chip companies regularly increase their dividend payments, but there could be occasions where dividends are reduced or eliminated altogether.
• Unexpected medical bills or other expenses can force you to dip in to your principal amount if you haven’t calculated sufficient monthly income to cover them.

Personally, I’m working at generating enough monthly income to fund my retirement years.  I suspect that most people will do some combination of the two methods.

Related: The Best Time To Start Saving Is Now

Consult with your financial professional to determine your personal calculations (for DIY investors there are a lot of resources available).  The goal for everyone is to have the financial resources to live an active, healthy life doing what they love best.

Those who cannot remember the past are condemned to repeat it.  With the recent media frenzy over Facebook raising $500M in private capital, and companies such as LinkedIn, Groupon, and Zynga set to enter the public markets, it’s not hard to draw parallels to the dot com bubble that took place a little more than a decade ago.

Investors who get the chance to flock to this latest fad will hope to cash in on the social media boom.  But is social media just a giant bust waiting to happen?

Much like in the late 1990’s, once the big players start the trend of going public, everyone will want a piece of the social media action.

We may start to see ridiculously high valuations on companies you’ve never heard of because they will supposedly become the next Facebook or Twitter.  Even the valuation given to Facebook at $50 billion seems crazy when they had approximately $1 billion in revenue in 2010.

Social Media: The Problem is that it’s Free

Facebook, Twitter, and LinkedIn are all great websites in their own way, each building and sustaining huge online communities.  There is little doubt that social media has changed the way we communicate and do business in the 21st century.

However, the problem with social media as a business model is that the membership and user generated content is absolutely free.  The only way to make money is to sell advertising and try to seamlessly integrate it into these online communities without turning off its users.

You can argue that Google is the ultimate free internet tool, and they managed to generate a market value of over $160 billion.  But Google acts as a portal to the rest of the web, users go there first to get answers on where to go next.  You can build a business off of that kind of demand.

Facebook is meant to keep users on its own site, engaging with friends and family or just mindlessly wasting time.  People spend more time on Facebook than on any other website.  Facebook is well aware of this and is still trying to work with advertisers to find the best way to leverage this into a sustainable revenue model without ruining the user experience.

So How Will They Make Money?

To quote my favorite Dragon’s Den investor Kevin O’Leary, “So how do I make MONEY?”.

How many businesses do you know that have a Facebook fan page?  Or a Twitter account that hasn’t been updated in months?  Advertisers continue to struggle with social media because the communities and individual users were not built to be sold to.

Perhaps the more sustainable revenue model would have been to charge businesses to set up Facebook fan pages or Twitter business accounts.  Or perhaps they could also get a percentage of revenue from any links to or sales made from that account.

I believe that Groupon has the most potential as a public company, with a proven revenue model that has estimated sales at $800 million in only 2 short years.  The users obviously expect to be sold to since they are looking for a deal when shopping online.

So Groupon has the benefit of building a loyal group of subscribers which will attract more merchants who want to sell their products through Groupon.  And by pocketing a percentage of each deal, Groupon can be the middle man without having to make a difficult choice on how to connect advertisers to subscribers.

Social Media Bubble?

Either way you look at it, these social media companies are going to attract a lot of money and a lot of attention over the next year or two.  But for those investors who were burned during the dot com bubble, this situation must look eerily familiar.

Time will tell if the social media phenomenon will become the next big boom or the next big bust.  All I know is, some people will get rich off of these companies in the short term, but not me, I won’t be playing.