Transitioning from saving to investing can be terrifying. Money in the bank provides a sense of security. If giving that up in favour of the unpredictable stock market scares you, you’re having the exact right reaction. The fear will eventually make way for excitement. In this series of articles, we’re going to help you find your inner hero.
Rule #1: Understand how money is made
There are five key principles that determine whether you make money or lose money. They seem very simple, but if you don’t understand them completely, you are not going to make good financial decisions. They are:
Rule #2: Don’t invest money you might need
You never want to be in a position where you have to sell your investment. First of all, it’s going to make you feel awful about yourself and your abilities as an investor. Secondly, you have no control over market movements. Sometimes the market is terribly exciting – we call this volatility. If the market happens to absorb a huge shock the day before you have a financial emergency that requires you to cash in your investment, you’re going to have less money to take out than you put in. Nothing will make you fall out of love with the stock market faster.
Rule #3: Debt costs more than investments can earn
Once you understand interest and compounding, you’ll quickly see the interest you pay on debt is way more than the interest you can earn when you save. That’s exactly how banks make their money. They lend the money you save to someone at 22% interest and pay you 4%. That’s a nice, fat profit margin on your money. In fact, the only person who definitely loses in this transaction is the fool paying the 22%. If that’s you, today is the day to start dealing with that.
Rule #4: Take care of yourself first
Few things are as awful as knowing that you have money that you can’t use when you need it. If your investments are tied up and you find yourself in an emergency, you want to be able to deal with that comfortably. This money is kept in a cash or similar account that you can access very quickly to deal with unexpected payments like insurance excess or replacing the clutch cable on your car. We discuss this in the next post about having an emergency fund.
As a rule of thumb, you want about three months’ worth of living expenses in this fund. The idea is if you lost your job with no severance package in place, you’ll be able to support yourself while you find another source of income.
Rule #5: Hope for the best, prepare for the worst
If you’re reading this, I’m assuming you’re alive. If you’re alive and able to read, you’ve probably figured out that sometimes terrible things happen to us. You might also know that whenever something terrible happens, you need money. You don’t want to add cashing in your investments on top of the dreadful thing you have to deal with. Protect yourself from:
- Losing your income due to injury or sickness
- Cashing in your investment to deal with loss or damage of your personal possessions
- Cashing in your investments to deal with a medical emergency
You’ll need dread disease and disability cover until you have enough money to cover your expenses for the rest of your life. This is a type of insurance product that you really hope you’ll never need. But if you are ever diagnosed with a dread disease having this insurance will allow you to choose how to deal with the disease.
Short-term insurance and medical aid also belongs to this category. If there’s anything in your life that you can’t afford to pay for with cash if it gets lost or damaged, you need to have an insurance product that can take care of it until you can afford to replace it yourself.
Rule #6: Take care of your future self too
At some point you’re going to want to stop working. Perhaps that’s because you’re too old to do what you love. Perhaps it’s because you don’t feel like spending eight hours of your day in a building with people you don’t particularly care for. Either way, you are going to need a huge amount of money to be able to pay for your day-to-day expenses when you stop working. You probably already know this, which is why you have savings in the first place.
Retirement products are an excellent first investment, because even when you’re tempted to cash them in, you can’t. They also give you an opportunity to see how share investments behave over time. Lastly, they offer a huge tax benefit. You can read more about these products in this blog.
Once you have this foundation firmly in place, you’re ready to make your first investment. We’ll hold your hand through that process a little later in this series.
Being outstanding with your money doesn’t have to be hard. This series of articles will give you all the tools you need to get your house in order to start investing. Written by Just One Lap and sponsored by OUTvest, this series is the ultimate guide to outstanding money.