PLUNGING stock markets forced many people to focus on the risks they were taking with their savings last year. You can reduce the risks by building a balanced investment portfolio tailored to your needs. This is not as difficult (or as expensive) as it sounds. Here, Jane Wallace explains begins a new series on investing from scratch, explaining how to build your own portfolio.

MANY people mark the New Year by resolving to start saving and making their money work for them. But a big obstacle for savers is deciding where to put the money, as the investment world is complex and often difficult to understand.

Far from understanding the finer points of share price movements, the first step in any investment decision is simple — work out what you actually want to achieve with your savings. You might want to save for a future project, such as buying a car or a house.

Or you may want your savings to produce an income you can live on. Alternatively, you might just want your savings to grow so that you can enjoy them in the future.

Once you’ve decided on your goal, you will be able to work out the time horizon of your savings plan, and how much you need to save. For example, saving for a deposit on a house, say £5,000, which you plan to buy in five years’ time, would mean putting £1,000 away every year for five years.

If you wanted the house in three years’ time you would need to save £1,333 a year. Long-term savings, such as a pension, will have 20 or 30 years to grow so you could build a larger pot of money from the same amount of savings.

The time frame for your saving will dictate what kind of investment you make. Anna Bowes, at independent financial adviser (IFA) Chase de Vere, says: ‘If you have less than five years to save, you should stay in cash, such as a building society account, because there is a higher chance that the value of a shares investment could go down. For more than five years, there is less chance that will happen so shares are more appropriate.’

This chance that your savings could sink in value is referred to as ‘risk’. Sometimes it is not clear that what it really means is the potential to lose part, or all, of your money.

All investments are risky — some more so than others — which is why some kind of return is paid to compensate the investor for taking that risk. The least risky investment is cash, because you can get your hands on it quickly and — bar the bank going bust — there is no risk to your original investment, so long as the interest rate stays ahead of inflation.

Next along the risk scale are bonds. These are IOUs issued by governments or companies which pay an income. Because our Government, or big British firms, are relatively unlikely to go bust, the chances of you getting your original money back are good — although not 100% certain. Finally, shares are the riskiest investment as there is no guarantee that you will get your full money back.

However, if all goes well, you would get much better long-term returns than with cash or bonds. All three assets should be represented in a balanced investment portfolio, although the exact amount of each can be tailored to fit an individual’s particular circumstances.

Cash is very important as you might need money in a hurry. Bonds and shares take longer to encash and, because they fluctuate in value, you might not get the best price for them if you are forced to sell in a hurry.

Your age is also an important factor in your investment decisions. Tim Cockerill, at IFA Chartwell, says: ‘Younger people should take more risk with their money as they have a lot of time to invest and they need to grow their savings most. Older people need to preserve capital so they can use it to provide an income in retirement.’

But, as Ms Bowes says, just because you are investing for ten years, it doesn’t mean you have to take more risk with your money.

Karena is on track

Karena Taylor, 22, started a regular savings plan of £50 a month into the Virgin UK Index Tracking fund in October last year. She chose a shares investment because she wanted to start putting money away for the very long term, perhaps to buy a car or a house in the future.

But she still has cash savings, just in case she needs money in an emergency when it would be a bad time to sell shares. Karena, a sales assistant from Fakenham, Norfolk, says: ‘Compared with a current account, you get more for your money over the longer term from the stock market.’

• Next week we shall look at risk in more detail and how to work out what risks you might be taking with your investments.