Project Description

This is an effective tool, particularly for investors just starting out. Goal-based investing simply means opening various investment accounts, each with a specific goal in mind. You can draw parallels between goal-based investing and the envelope system of saving.

In the envelope system, you label multiple envelopes with different goals; for example, one could be labeled “Dream house”, another labeled “College Fund”, and another labeled “Rainy Day Fund”. Once your envelopes are properly tagged, you can start to contribute specified amounts to each one until your goals are reached.

Because your envelopes address different needs, you shouldn’t reach into the “College Fund” envelope to cover your down payment on a house. Similarly, you shouldn’t dip into your “Dream House” envelope if an emergency arises. By identifying and saving separately toward specific needs, you can plan realistically and achieve each goal much quicker.

Goal-based investing is based on the same system but gives your money the potential to grow while it’s in the “envelope”, allowing you stay ahead of inflation.

There are two main reasons goal-based investing is an effective way to build your wealth:

  1. You’re more likely to put money away towards this goal because it is something you are passionate about.
  2. You’re less likely to withdraw funds on a whim because it could jeopardize your ability to accomplish your goal.

Put the odds in your favor

In a world of instant gratification, it can be extremely difficult to put off living in the moment for distant goals like retirement or building wealth. By having a specific goal in mind when you open an investment account, however, you are turning a “dream” into an eventual reality. Working towards this reality and being able to watch it materialize helps you put off small purchases that could work against achieving your goal.

Setting these types of goals also helps to ground your investment so you are unwavering during times of market volatility or when unexpected expenses arise. For example, if you have an account dedicated as your “Rainy Day Fund” – this is the account you withdraw from if an emergency arises. After the storm has passed, your other goals are still intact and you can start rebuilding your emergency fund.

Prioritize your goals

The hardest part about goal-based investing is simply knowing which goals to start saving for, as well as making room in your budget to accomplish these goals. Here is a simple exercise that can help you get started:

  1. Make a list of your financial goals making sure they are specific, measurable, and actionable
  2. Put your goals in order according to your priorities
  3. Evaluate your budget to see how much you can put away towards your goals each month
  4. Run the numbers and see how long it will take to accomplish your goals with your allocated budget
  5. Make adjustments as needed

Invest in your dream life

Once you start investing toward your goals, you will start moving toward your dream life. But in order to be successful, your goals must be specific AND actionable.

An example of a specific goal is “save $100,000 for a down payment on a house”. This is actionable only if you have room in your budget to put money away towards this goal on a regular basis.

Once you’ve made a list of specific and actionable goals:

  • Analyze each one and ask yourself — which of my goals are the most pressing?
  • Prioritize payments to the goals you want to accomplish first. Then see if there is any room left in your budget to contribute to more distant goals.
  • If possible, try to contribute to all of your goals in different amounts depending on priority. For example, if you have $700/month in your budget available for investing and your goals are prioritized as 1) Rainy Day Fund; 2) Dream House; and 3) College Fund; allocate $300/month to your rainy day fund; $275 month to your dream house; and $125/ month to the kid’s college fund.
  • Once you reach your primary goals, you can reallocate your investment budget to the existing goals. For example, once you’ve fulfilled your Rainy Day fund, you can start contributing $475/month to your dream house and $225/month to the kids college fund.

Consider setting up automatic transfer payments from your checking account into your individual investment accounts. This way you never see the cash and you’re not tempted to spend it.

If automation isn’t your thing, mark a day on your calendar each month that you transfer the funds. This will help reinforce your goals and give you a feeling of satisfaction each month after you’ve transferred your allocated amount.