Personal Financial Planning (FIN533) - PDF

PERSONAL FINANCIAL PLANNING (FIN533) CHAPTER 1 INTRODUCTION Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved. Personal Finance Basics and Time Value of Money  Chapter 1 Learning Objectives 2 1. Analyze the process fo...

PERSONAL FINANCIAL PLANNING (FIN533) CHAPTER 1 INTRODUCTION Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved. Personal Finance Basics and Time Value of Money  Chapter 1 Learning Objectives 2 1. Analyze the process for making personal financial decisions 2. Develop personal financial goals 3. Assess personal and economic factors that influence personal financial planning 4. Determine the personal and financial opportunity costs associated with personal financial decisions 5. Identify strategies for achieving personal financial goals for different life situations  The Financial Planning Process 3 Objective 1: Analyze the process for making personal financial decisions Personal Financial Planning is the process of managing your money to achieve personal economic satisfaction. This planning process allows you to control your financial situation. Every person, family, or household has a unique financial position, and any financial activity therefore must also be carefully planned to meet specific needs and goals. A comprehensive financial plan can enhance the quality of your life and increase satisfaction by reducing uncertainty about your future needs and resources.  The Financial Planning Process 4  Advantages of Personal Financial Planning are: 1. Increased effectiveness in obtaining, using and protecting financial resources 2. Increase control of one’s financial affairs 3. Improved personal relationships 4. Sense of freedom from financial worries  The Financial Planning Process (continued) 5 Six-step procedure for Financial Planning  Determine your current financial situation.  Develop your financial goals.  Identify alternative courses of action.  Evaluate your alternatives.  Create and implement your financial action plan.  Review and revise your plan. SIX-STEP PROCEDURE FOR FINANCIAL PLANNING  The Financial Planning Process (continued) 7 Step 1: DETERMINE YOUR CURRENT FINANCIAL SITUATION  Determine current financial situation regarding income, savings, living expenses, and debts  Prepare a list of current asset and debt balances and amount spent for various items  Match financial goals to current income and potential earning power  The Financial Planning Process (continued) 8 Step 2: DEVELOP YOUR FINANCIAL GOALS  Identify feelings about money and the reasons for those feelings  Determine the source of your feelings about money  Determine the effects of economy on your goals and priorities  Make sure that your goals are your own and are specific to your situation  The Financial Planning Process (continued) 9 Step 3: IDENTIFY ALTERNATIVE COURSES OF ACTION  Possible courses of action can be:  Continue the same course of action  Expand the current situation  Change the current situation  Take a new course of action  The Financial Planning Process (continued) 10 Step 3: IDENTIFY ALTERNATIVE COURSES OF ACTION (continued)  Creativity in decision making is vital to effective choices  “Do nothing” can be a dangerous alternative  The Financial Planning Process (continued) 11 Step 4: EVALUATE YOUR ALTERNATIVES  CONSEQUENCES OF CHOICES  Opportunity cost - What you give up when you make a choice  The cost or trade-off of a decision cannot always be measured in ringgit. Sometimes the cost is your time  EVALUATING RISK  Uncertainty is a part of every decision.  Best way to analyze and minimize risk is to gather information from financial planning sources. (Exhibit 1-3)  The Financial Planning Process (continued) 12 Step 5: CREATE AND IMPLEMENT YOUR FINANCIAL ACTION PLAN  Develop an action plan that identifies ways to achieve financial goals  Possibleaction plans can be increasing savings, reducing spending, or making provisions for taxes  To implement action plans you may need assistance from others  The Financial Planning Process (continued) 13 Step 6: REVIEW AND REVISE YOUR PLAN  Financial planning decisions need to be assessed regularly  Complete review should be done at least once a year  Regular reviews of decision-making process can help in making priority adjustments to achieve financial goals  Developing Personal Financial Goals 14 Objective 2: Develop personal financial goals  TYPES OF FINANCIAL GOALS can be:  Influenced by the time frame in which you want to achieve your goals  Influenced by the financial need that drives your goals  TIMING OF GOALS  Short-term, intermediate and long-term goals  Long term goals should be planned in coordination with short-term and intermediate goals  GOALS FOR DIFFERENT FINANCIAL NEEDS  Consumer product goals  Durable-produce goals  Intangible-purchase goals  Developing Personal Financial Goals (continued) 15 GOAL-SETTING GUIDELINES  Goals should be realistic  Goals should be stated in specific terms  Goals should have a time frame  Goals should indicate the action to be taken Discuss some of your goals  Influences on Personal Financial Planning 16 Objective 3: Assess personal and economic factors that influence personal financial planning LIFE SITUATION AND PERSONAL VALUES  Adult life cycle stage  Marital status, household size, and employment  Major events  Graduation, marriage, career change, children, retirement, etc  Values  What values are important to you?  Influences on Personal Financial Planning (continued) 17 ECONOMIC FACTORS  Forces of Supply and Demand and prices  Study of how wealth is created and distributed  Economy includes different institutions  Influences on Personal Financial Planning (continued) 18 GLOBAL INFLUENCES  Global marketplace influences financial activities  Economy affected by both financial activities of foreign investors and competition from foreign companies  Balance of exports and imports  Interest rates  Money supply  Influences on Personal Financial Planning (continued) 19 ECONOMIC CONDITIONS Consumer The value of the dollar prices changes in inflation Consumer The demand for goods and spending services by individuals and households Interest rates The cost of money; cost of credit when you borrow; return on your money when you save or invest  Influences on Personal Financial Planning (continued) 20 Financial Personal Acquisitions Opportunity Costs (automobile, (time, effort, health) home, college education, Financial investments, Opportunity Costs insurance, (Interest, liquidity, retirement fund) safety )  Opportunity Costs and the Time Value of Money 21 Objective 4: Determine the personal and financial opportunity costs associated with personal financial decisions  Every financial decision involves giving up something to obtain something else PERSONAL OPPORTUNITY COSTS  Time  Other personal opportunity costs can be related to health, leisure etc.  Personal resources like financial resources require careful management  Opportunity Costs and the Time Value of Money (continued) 22 FINANCIAL OPPORTUNITY COSTS Time Value of Money  Increases in an amount of money as a result of interest earned.  Saving today means more money tomorrow. Spending means lost interest.  Saving and spending decisions involve considering the trade-offs. Current needs can make spending worthwhile.  Opportunity Costs and the Time Value of Money (continued) 23 INTEREST CALCULATIONS  Three amounts are required to calculate the time value of money  Principal  Interest rates  Time  Opportunity Costs and the Time Value of Money (continued) 24 COMPUTING SIMPLE INTEREST (Amount in savings) x (annual interest rate) x (time period) = (interest) For Example: RM100 x 5% x 1 (1 year) 100 x.05 x 1 = RM 5.00 In one year you have RM100 in principle plus RM5.00 in interest for a total of RM105 at the end of the year  Opportunity Costs and the Time Value of Money (continued) 25 FUTURE VALUE OF A SINGLE AMOUNT  Future value is the amount to which current savings will increase based on a certain interest rate and a certain time period  Future value is also call compounding - earning interest on previously earned interest FUTURE VALUE OF A SERIES OF DEPOSITS  Future value can be computed for a single amount or for a series of deposits called annuities  Opportunity Costs and the Time Value of 26 Money (continued) PRESENT VALUE OF A SINGLE AMOUNT  Present Value is the current value of a future amount based on a certain interest rate and a certain time period  Present value calculations are also called discounting  The present value of the amount you want in the future will always be less than the future value PRESENT VALUE OF A SERIES OF DEPOSITS  Present value can be computed for a single amount or for a series of deposits  Achieving Financial Goals 27 Objective 5: Identify strategies for achieving personal financial goals different life situations COMPONENTS OF PERSONAL FINANCIAL PLANNING  Obtaining  Planning  Saving  Borrowing  Spending  Managing risk  Investing  Retirement and estate planning  Achieving Financial Goals (continued) 28 DEVELOPING A FLEXIBLE FINANCIAL PLAN  A financial plan is a formalized report that...  Summarizes your current financial situation  Analyzes your financial needs  Recommends future financial activities  Your financial plan can be created by you, with assistance from a financial planner, or made using a money management software package  Achieving Financial Goals (continued) 29 IMPLEMENTING YOUR FINANCIAL PLAN  Develop good financial habits  Use a well conceived spending plan to help you stay within your income, while allowing you to save and invest for the future  Have appropriate insurance protection to prevent financial disasters  Become informed about tax and investment alternatives