Like a professional footballer, the physio has to check the physical health of the players before they are declared fully fit to play in a 90 min competitive game. Similarly, to us as retail investor, we need to understand our own personal financial ratios so that we put priority in the most pressing area in our personal financial planning due to limited resources. Don’t jump straight to investment if we are not sure out financial fitness level.
There are 8 basic personal financial ratios we need to check.
(1) Basic Liquidity Ratio: This ratio checks whether we have enough cash reserve to serve our monthly expenses. The guideline for a typical person is 3 to 6 months but it may need up to 1 year for unemployed PMET who are aged 40 and above because they may need longer time to find a job. In other word, this can be treated as the number of month emergency fund available to deal with unforeseen circumstances.
(2) Liquid Asset to Net Worth Ratio: This ratio indicates the percentage of your net worth that are liquid. If you are retiree and you think you have “Asset Rich Cash Poor” symptom, check whether your ratio is meeting the guideline of at least 15%.
(3) Saving Ratio: This ratio measures whether one set aside part of the monthly income to invest regularly with discipline to meet their own financial goal. As a general rule of thumb, one should put aside at least 10% of monthly gross income. In another word, “Pay Yourself” first!
(4) Debt to Asset Ratio: This is also known as personal Gearing Ratio. This ratio checks how much your assets are funded by debt. As a general rule of thumb, you should have no more than 50% of your assets leveraged through debt.
(5) Debt Service Ratio: This ratio measures how much you use your “take-home-pay” to service total debt obligations. If you don’t want to become a housing loan slave, credit card loan slave or any debt slave, start reducing your Debt Service Ratio to less than 35% as per the general guideline.
(6) Non-Mortgage Debt Service Ratio: This ratio measures how much you use your “take-home-pay” to service you credit card debt, personal loan and other non-mortgage related debt. The effective interest rate of all these debts are much higher than mortgage loan. If you are in financial distress and facing difficulties in clearing your debt, this is the area you should be focus on immediately. As a general rule of thumb, you should have no more than 15% of your net income going into non-mortgage debt.
(7) Net Investment Assets to Net Worth Ratio: This ratio measures how much your net worth is invested assets, and whether you deploy the resources efficiently to income generating asset classes. As a general guideline, you should have at least 50% of your assets invested in some form of capital (investment) assets.
(8) Solvency Ratio: This ratio measures your technical solvency in terms of whether you have sufficient assets to meet your liabilities. As a general rule of thumb, your Net Worth should be at least 50% of your Total Assets.
In summary, understanding our own personal financial ratio is extremely important when charting our financial journey to prioritize the allocation of our limited financial resources. Personal Financial ratio also serves a measurement of our financial progress when we are moving along our life stages. Things get measured, things get done and get improved. Start measuring your Personal Financial Ratio now!
Kenny Loh is a Senior Consultant of a largest Independent Financial Advisor in Singapore. He won 4 Awards in 2017, Financial Alliance Quality Class Merit Award, Top 5 Investment Asset Under Advice (AUA) Award, Rookie Consultant of the Year Award and Best Practice Consultant Award. You may contact Kenny at firstname.lastname@example.org if you need help in conducting a Financial Health Check to understand your Personal Financial Ratio.