How to achieve short term savings goals using micro-portfolios

This article explores effective strategies for achieving short term savings or investment goals. In the Financial Independence (FI) community it is often emphasised that we should only invest for the long term; typically at least five or ten years. These long time frames are suitable considering how the stock market can fluctuate heavily over a short period.

With such a strong case for thinking long term, how do we plan and act when dealing with shorter term goals. Examples of such short term savings goals are for:

    • Buying a car in two years
    • Saving for a house deposit/ down payment in four years
    • University or school fees due in three years

How fixed is your goal?

Before coming up with a plan, the first thing to consider is how definite your goal is. If the time scale is fixed, you will have to be more prudent and take less risk. You don’t want to invest the majority of the funds in stocks as you can experience volatility or a drop such as the one we are currently going through this year. Imagine if you had 100% of your house deposit funds invested in stocks and you intended to buy the property in April 2018!

If the time scale for achieving your financial goal is not definite; you can consider taking more risk in return for bigger rewards.

If the time scale is not as definite you can consider taking a bit more risk. For me an example of this is consideration for buying a replacement car. Initially, I had been using only regular cash savings to build up funds for the purchase. With time, I realised that this goal is not urgent and may even be not required. In response, I transferred the funds to stocks which are likely have higher returns than cash.

Opportunity Cost

It is worth considering using stocks for some shorter term goals in-order to deal with the impact of opportunity cost. Opportunity cost is when you miss out on returns which would have been achieved had you invested the funds into higher return assets. This can be particularly true when you have large amounts of cash sitting in low-interest rate bank accounts for a long time.

The micro-portfolio

My approach to achieving short term goals is to employ micro-portfolios or “buckets”. These are effectively small investment portfolios with different stock, bond or cash asset allocations to suit the specific goal in mind as shown below.


Portfolios for short and long term goals

The chart shows that long term investments; for example for retirement or financial independence should be primarily held in higher return assets and to a lesser extent in medium or lower return assets to counter market volatility. Small amounts in low return assets such as cash can also be ideal for an emergency fund, to ensure that other high return assets are not depleted unnecessarily.

For short term goals which do not have specific timescales and are not as substantial, an arrangement such as micro-portfolio 1 would be more suitable. This is mostly composed of stocks but has a significant proportion of the other asset types.

For more definite goals, micro-portfolio 2 would be more suitable. Composed of mostly cash, this fund would not be drastically impacted in a stock market crash, but offers a chance of boosting returns if there is an upturn in the market.

Money is fungible

It also important to note that money is fungible as this can be useful when the time to use a particular fund comes. The buckets described are created mentally to facilitate planning but everything is essentially in one large portfolio. This means that assets from one bucket can be transferred into another if this provides an advantage.

For example, cash savings from micro-portfolio 2 can be moved to micro-portfolio 1 if there has been a drop in the market. Similarly, if stocks have gone up substantially, the gains can be moved to another bucket where they would be more useful. These approaches will provide options and should prove useful for both long and short term planning.

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