A Common Sense Path to Financial Freedom
BY: Daniel M. Savage
- Always spend less than you make. Despite its obvious wisdom, this simple practice presents a major challenge for many people, regardless of their income levels. Human nature drives us to spend more as we make more. Remember: it is not how much you make; rather, it is how much you keep!
- Pay yourself first. This as a positive way of being financially selfish. Whether it is three, eight, or ten percent of your income, that payment to yourself should be sacred…untouchable for other purposes. Benjamin Franklin wisely said, “A penny saved is a penny earned.”
- Be an investor, not a borrower. Said differently, investors become wealthy while borrowers get poor. Bach illustrates this by describing stocks and real estate as “up” escalators in the wealth building process and so-called bad debt as a “down” escalator. Bad debt includes high interest rate credit cards, incurring debt to buy things you do not need, and investing in items that invariably lose value.
- Buy a home. Don’t rent. Despite what you may have heard, renting long-term will not optimize wealth accumulation. Studies prove that the average net worth of homeowners is significantly greater than that of renters…more than 40 times greater. As Bach says, “Renters stay poor. Homeowners and landlords build wealth.”
- Don’t lend money to friends or family. If your true intent is to loan rather than gift, your head should overrule your heart. The odds of a double default (loss of money and friendship) are high in most cases.
- Never invest in things you don’t understand. Warren Buffet and Peter Lynch wholeheartedly agree. Good investments need not be complicated, so…stay clear if it is not clear!
- Invest for the long term. Having patience can be incredibly challenging for many investors, yet long term success demands patience. Bach, Warren Buffet, and Peter Lynch all believe that the secret to building wealth is purchasing quality investments and holding them…unless there are truly compelling reasons to sell.
- Don’t try to time the market. Market timing is so tempting, but it is invariably a losing proposition. Multiple studies have conclusively proven that being out of the market for just a few days over a 20-year period can dramatically decrease returns by 25%, 50%, or more. Additionally, market timing is not an “invest for the long term” strategy.
- Never bet the farm. For some folks, getting rich is not enough. They want to “get rich quick” and can be tempted to bet the farm on the next “sure thing”. Common sense teaches us that what’s hot today will not be hot tomorrow. Remember…there is no substitute for thoughtful diversification over time.
- Compound interest is a miracle. Many people mistakenly believe that accumulating wealth requires investing a large sum at the onset. In reality, combining small amounts of money with time and the power of compound interest is a surer path to wealth accumulation for most. Here is an illustration that contrasts investing $100 per month earning 7% for 20 years with doing the same for 40 years:
|20 Years||40 Years|
The message is clear: time is an investor’s best friend, as evidenced by both the amount saved and the amount earned.