Like many young people, I don’t have my life completely figured out just yet. I’m not sure exactly where I will spend my time and talents, but I have figured out a few paths I definitely want to avoid. One of paths I want to avoid is living a life of financial distress. I see a lot of people living with debts, and working jobs they hate because they need the income. How can you feel good waking up in the morning if you feel like your employer is purchasing and misusing a piece of your life every day, and you can’t do anything about it because you need the money? This is the life of an indentured servant. I want to attain financial independence as soon as possible so I never have to live like that.
Financial independence means saving and investing enough money that your annual investment income is sufficient to provide your desired standard of living. It means you can live the lifestyle you want, and avoid working for employers you dislike. It frees your time to work on personal projects, and you can rest peacefully at night knowing that your future needs will be met, and your dependents (if you have any) can count on you. No matter what you plan on doing with your life, being financially independent can only benefit you along the way.
The Intimidating World of Finance
Naturally, where there’s money involved, there are people who are interested in taking it from you. Many people are confused or intimidated by the subject of finance because it involves mathematics, and people in suits. People generally find these things distasteful or boring; thus, they have little interest in studying finance. Not surprisingly, there is a lot of ignorance, theft, jargon, and misinformation in world finance.
I would not call myself an expert in finance, but I have confidence and a good math background which helped me to sort through it all. Interestingly, the most important principles of finance (the ones with the biggest payoff) are the easiest to understand! Simple fact checking calculations (arithmetic) and basic knowledge of probability and statistics can effectively filter most of the crap. Reading a few books on the subject can provide the remaining insight needed to navigate the investing world.
A Simple Financial Strategy
Over this past summer, I developed my personal strategy for achieving financial success, using a combination of intuition, personal experience, and intentional research. Just a few days ago I watched Warren Buffet’s speech to a graduating class in Nebraska in 1999 where he gives a lot of advice on living a successful life, and becoming financially secure. I was surprised that one of the richest men on earth was giving advice that virtually echoed my own strategy. Listed in order of most to least important, the strategy is:
- Don’t overspend
- Live comfortably, but don’t show off
- Try to avoid debt, especially credit cards
- Save as much as possible
- Invest in your own earning potential early
- Avoid buying investments you don’t understand
- Educate yourself and determine good investments for your savings
- Invest your money, watch it grow, and live off the returns!
Intuition – Why It Feels Right
People often get distracted by details and lose sight of the bigger picture. I wanted to use this post to present the general approach from an intuitive perspective. Each of the three main principles of my financial strategy deserve their own blog post to properly explain and justify them. Over the next few weeks I will attempt to do just that. For this post, I’ll present a few intuitive arguments that illustrate why this strategy makes sense.
The first problem that gets people into financial trouble is overspending. How much value are you getting for the assets you pay for? Consider a car purchase: a $15,000 entry level sedan versus a $40,000 relatively cheap pickup truck. Does your truck really give you $25,000 more value in your life? Are you hauling heavy, large, awkward crap constantly, or mostly just buying groceries and running errands around town? What is the difference between these two vehicles in annual fuel cost, replacement parts, and insurance? The pickup truck may cost you thousands of dollars a year extra because of these other factors. What else could you be doing with $25,000 now, and thousands per year later on? Suddenly the truck doesn’t seem like such a good deal for the average person.
Another big stumbling block for many people is a lack of math skill, or lack of confidence of how to apply the math they already know. Financial math is mostly simple arithmetic, so learn it! High school graduates should already know most of it. Do you understand how much interest you will be paying on each of your credit card bills? What’s the interest rate? What does that amount to in terms of dollars paid in interest? If you cannot answer these questions, you shouldn’t even have a credit card. If you’re unwilling to learn it, then simply avoid debt and credit cards entirely.
Do you have an RRSP or TFSA (for American readers: 401k or Roth IRA)? How are they taxed, and what advantage can you gain by using them? Is your money in these accounts invested in mutual funds? What does it mean to be a mutual fund, and where do they invest your money? Who is managing your fund? How much do they charge for expenses? Are the expenses justified? If you are purchasing investments that you don’t fully understand, how can you guarantee you aren’t being cheated? If you don’t know what tools are available to you, then you might be missing good opportunities out of ignorance.
If you can avoid all the various ways of being stupid with the money you have, then you’ve already won more than half the battle! Complement that with a practical career that pays decently, and an investment strategy so your savings earn income, and you’re well on your way to financial independence!