Posted on: 14 Sep, 15
In order to develop your financial plan, you need clarity over your goals, your objectives and your motivations. Cash flow modelling illustrates what might happen to your finances in the future, and enables you to plan to ensure that you make the most of your money to achieve your financial objectives.
The process of cash flow modelling shows your current position relative to your preferred position and your goals by assessing your current and forecasted wealth, along with income inflows and expenditure outflows to create a picture of your finances, now and in the future. This detailed picture of your assets includes investments, debts, income and expenditure, which are projected forward, year by year, using calculated rates of growth, income, inflation, wage rises and interest rates.
In order to implement a detailed plan that outlines how to deliver your financial future, communication is vital. The process and planning is only as good and as comprehensive as the information you provide. Cash flow modelling is most successful when making use of annual reviews and re-assessments, and you will need to be fully involved in the process as there can be variables.
Cash flow modelling can determine what recommendations and best course of action are appropriate for your particular situation, lifestyle and spending and the right asset allocation mix. The growth rate you require is calculated to meet your investment objectives. This rate is then cross-referenced with your attitude to risk to ensure your expectations are realistic and compatible with the asset allocation needed to achieve the necessary growth rate.
Where cash flow modelling becomes particularly useful is the analysis of different scenarios based on decisions you may make – this could be lifestyle choices or perhaps investment decisions. By matching your present and expected future liabilities with your income and capital, recommendations can be made to ensure that you don’t run out of money throughout your life.
A snapshot in time is taken of your finances. The calculated rates of growth, income, tax and so on that are used to form the basis of any cash flow modelling exercise will always be assumptions. Therefore, regular reviews and reassessments are required to ensure you remain on track.
Nearly all decisions are based on what is contained within the cash flow: from how much to save and spend, to how funds should be invested to achieve the required return, so there is a lot that needs to be managed.
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