(Chapter 2 of a short series looking at Retirement as one of the First Goals of Your Career)
From Depressing to Boring … But OH SO IMPORTANT!
In my previous post, I got you to the depressing point of realizing that you are probably very far from retirement.
Today’s post is not going to be very exciting. Hopefully it won’t border on the downright boring. But it contains really, really important information which you need to take note of as early as possible in your career. I can almost certainly guarantee you that if you don’t take note of these things now, you will retire poor. On the other hand, if you do take note (and action), you may retire wealthy, and even retire earlier than you originally anticipated – freeing you up to live an even better and more successful life than you ever dreamed of.
Just as a quick refresher, we are looking at the Personal Balanced Wealth Balance Sheet:
And to understand the concept of getting ready for retirement, as one of the first and most important goals of your career, we are specifically looking that the blocks that deal with passive income and expenses. Passive income is income that gets generated for you, from investments you have, without your having to spend time (or at least not much time) managing these.
We said last time that the first thing you have to do, is to take stock of your current investments, the income that they can generate for you, and see how far that is from covering your expenses.
For most people who have never done this before, this picture is rather depressing.
How Do You Change the Picture?
The good news is that the sooner you start looking at this picture, and the sooner you begin to actively manage it, the sooner you can make it less depressing. And it IS POSSIBLE, to start making this picture look better. It’s just a matter of beginning to develop the right skills and the right habits.
So what can you do to start changing this picture from depressing, to inspiring?
Firstly you need to understand where the leverage points are that can influence your picture. Some points are on the left hand side, and some on the right. Today we will look at the left.
On the left hand side of the two blocks, you have income generating investments.
Let’s say you have R 100 000 invested in e.g. a Money Market account in South Africa, you can probably get about 2% interest. That’s R 2 000 per year. So your R 100 000 will give you R 167 per month. We call that your “Return on Investment” or sometimes called “ROI”.
There are two ways to increase this amount:
The first way is to increase the size of the investment. If you keep adding some money to your investment every month, then at some point you will have R 200 000, and then your income will be R 334 per month. This means very simply that the sooner you start adding money to your savings every month, and the more you can save every month, the quicker your return from that will grow. And as long as you keep reinvesting that return, you also get the benefit of compounding – which simply means that your investment grows with the value of the returns you get from it. Remember you haven’t retired yet – so you should not be taking money OUT of your investment, just putting it IN.
The second way is to improve the return on your investment. That simply means to increase the percentage of income, or growth you can expect to get from your investment. You can do this in a variety of ways. I am not an investment expert, so I am not going to try and give you all sorts of investment advice here, but I can give you a basic overview – and then you need to go and do your own homework from there.
There are not that many different ways to invest money, and if you ever plan to retire comfortably, you must learn about these sooner, rather than later. The longer you wait the less chance you have to recover from mistakes, and the more money you miss out on, that you could have made through wiser investment.
Investments can be evaluated on two scales: a scale from low return to high return, and a scale from low risk to high risk.
High return means that you get more for the same investment. If you buy a R 5 lottery ticket (or however much they cost), and you win R 10 000 000 (or however much you can win) the return is very high. If you invest R 100 000 on the stock exchange over twenty years, and you get a return on average of about 20% per annum, you have succeeded in managing a reasonably good return on your investment.
Risk means the chances of losing some, or all of your money. If you buy a R 5 lottery ticket you have a very high chance that you will get nothing in return. The risk is very high. If you invest R 100 000 on the stock exchange over a period of twenty years, then you have to invest really badly to lose all your money. So the risk is very low.
Risk and time are also related. If you invest R 100 000 in the stock exchange in a reasonably well designed portfolio of shares for six months, and that happens to be a period during which the market takes a down-turn, you have a very high chance to lose some of your money. However, if you leave your money there for two or three years, chances are that it will recover, and thereafter grow beyond your initial investment.
In general these trade off against each other. The higher the return, the higher the risk. The lower the risk, the lower the return.
The Common (And Very Useful) Investments
The simplest low return investment is the good old common savings account. Unless the bank goes bankrupt (which happens very seldom), your money is safe. But the interest is really low. It’s really simple and cheap to operate, and a good starting point for helping you build the habit of regularly putting some money away.
Money Market Account
A little bit higher return, and still pretty low risk, is a Money Market fund. Most South African banks allow you to open one of these very easily. See this as one step up from normal savings.
Managed Savings Products e.g. Savings Plan, Retirement Annuities
A little bit higher returns can typically be expected from investments that are managed on your behalf, such as a savings plan or retirement annuity with an insurance company. The great thing about these is that typically they have a debit order going straight off your bank account, which means you HAVE to put that money aside every month. (You can stop most of them at any time if you really run into trouble and cannot pay any more – and then whatever has been invested will just keep growing.)
The next level of investments are investments that you manage yourself, and they have also a whole range of risk vs. return relations, which becomes too much detail to cover here. You should do a bit of homework on each of these. These kinds of investments are:
- Mainly two types of property – Commercial (for businesses) and residential, and the returns are in the form of rental income and the value increase of the property. The risk is that the property will decrease in value.
Unit Trusts and Index Funds
- Managed or partially managed investments in stocks such as unit trusts, and index funds. The risk is that they will actually lose money for you. This tends to only happen over a short period of time when there are major economic downturns.
Directly Investing in Shares You Select
- Investing directly on the stock exchange. This is easier than most people think, but it’s a good idea to first do some reading and homework, and decide on a good investment strategy. I know that with FNB it took me a few minutes to open a share trading account, and I think most South African banks offer similar facilities.
Investing in Small Businesses or Ideas
- Investing directly in a business (or businesses or ideas) that are too small to trade on a stock exchange. This is probably the highest risk, but on the odd occasion can have stellar performance. If you do this, stay involved in it.
Investing in Valuables
- Investing in valuable items such as gold coins, paintings, wine, rare cars and so on.
There are other ways to invest, but the above are probably the main ones you should get familiar with.
But Where do I Start?
A good approach is to start doing a bit of reading about each of these, find someone who is really successful with each of these, see if they’ve written a book or a blog, and get just a general idea of how people invest in these, and how much money you need to start.
So a good approach is a step by step plan. Open a savings account TODAY apart from your normal living-from bank account and start putting some money in there regularly (and don’t take it out, except to move it to better investment). Or contact a trustworthy insurance broker and take out a savings plan. While that is growing slowly as you add money to it every month, read and research about your other options, so that when you have saved up enough, you can take a wise next step.
As you begin to invest, always keep reading about investments, because you never know when you will learn something that you never knew. Knowledge really can make a difference – which is why Warren Buffet has made billions investing in shares, and Donald Trump has made billions investing in property. They took the time to find the right knowledge, and applied it to their investment decisions. My all-time favourite investment writer is William Cowie, of Bite the Bullet Investing, and Drop Dead Money.
As you learn more about these investment methods, you will begin to understand the risk that go with each, and the returns that you can reasonably expect. And you will learn more about yourself, and which investments are suited to your personality and preferences.
But what if you don’t have money?
Now of course, to invest, you first need money. And you might tell me that you have no money left to save at the end of every month. This may be true for you right now. And next time we will look at the ways to address that. But don’t wait for that. Start doing your research now. You will find that as you begin to learn and think more about investment, your levels of motivation and determination to start investing will strengthen. And strong resolve is something you are going to need to take the actions that can enable you to begin to build strong saving and investment habits.
So for now, get researching, start up a few spreadsheets, and do some play-play investing. Imagine you had a million bucks, and imagine that you invest it in something. Put that down in a spreadsheet, and then begin to watch the value of that investment. Read about investments, and put a few more millions in a few other investments. See over time which ones did well, and which ones didn’t do so well.
This is a great way to begin to understand investment without risking any money.
But of course, you cannot retire on games.
To retire, we need to get you to have some real money, to do some real investment – and that is what we will look at next time.
To your Balanced Wealth
About The Author
Ashton Fourie is a Management and Organisation Development consultant with a passion for life-long learning and growth as foundations for meaningful success. He started out working as an office cleaner for a small cardboard factory, worked himself up, and has since built up 15 years of management experience, obtained a degree in Business Management and is completing a Master’s Degree in Managing and Leading Innovation and Change. He is married to a beautiful Chinese lady and has a 7 year old daughter and 5 year old son, who are both fluent in English and Mandarin Chinese.