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In Lesson One, You Will Learn:Now it’s time to take control of your finances. In the previous chapters you have set goals and made plans to achieve those goals. Now, let’s take a look at budgeting and investing. Too many people have too few funds invested for retirement. They spend all of their income or, worse, they find themselves sucked into a downward spiral of debt. Few will be able to enjoy early retirement. In fact for some retirement will never come. This spend-it-all-now lifestyle is not just confined to people of modest means. Many people with good incomes who could be wealthy with planning and self-discipline allow themselves to be caught in the same debt trap. They become addicted to immediate gratification and they sentence themselves to a life of toil. Regardless of your present financial condition you can master your money. If you faithfully follow The Master Success System, you will be able to maintain a quality lifestyle as you invest for your future. Mastering money requires two of the most powerful Action Principles: persistence and determination. If you are currently in debt, you need a practical plan to pay it down. You must be honest with yourself, acknowledge your problem and show the courage to make changes. As soon as possible, you want to regain control over your financial life. A good credit standing is important especially if you intend to invest in real estate as the Master Success System recommends. The secret to mastering money isn’t secret. It is a conscious choice to spend less than you make. It is thinking long term rather than short term. It is realizing that you make money by working hard and investing and not by applying for new credit cards or other consumer loans. Immediate gratification is alluring. A comfortable early retirement must be even more alluring.
By carefully tracking your expenses for a month you should be able to come up with a good estimate of your annual expenses. These are big numbers. However, if you start saving early, through the wonder of compound interest, your assets will appreciate substantially. Start somewhere. Save something. Be disciplined and persistent. Every time you buy something that you don’t need you are stealing from yourself. Every dollar that you save and invest at 6% interest will double in twelve years. If the investment return is 12%, the dollar doubles in six years. Most people are not able to save 5% - 20% of their income. They see every additional dollar of income as a new opportunity to spend. This assures that they will be on the treadmill for the rest of their lives. They aren’t long term investors. They haven’t got a financial plan. Be different. Go to Success.org and try different savings and investment scenarios using the compound interest calculator. By entering your current net worth, your financial goal and estimated rates of return, you will be able to determine realistic financial goals. By varying the amount you save each year you’ll see that small changes can, over time, translate into large differences in future outcomes.
The second step is to put aside enough cash to provide a safety net. One good rule to follow is to keep enough money on hand to live for six months. This can also be in the form of cash equivalents rather than a normal savings account in order to benefit from the higher interest rates. For retirement your target should be accumulate nest egg large enough to provide sufficient income each year to live comfortably. Based on step 3 above you will have an estimate of how much that is. Using that estimate as a starting point figure out how much money you’d need to have invested to provide that income assuming 10% return annually. It’s important to use a conservative rate of return when devising a realistic plan. Once you have figured out the numbers for each step above you will have a much clearer picture of where you want to go. As you keep your financial log, you are becoming a conscious consumer aware of what and why you are buying. Just being aware will often reduce your spending. One of the largest purchases made by the average American is his car. Many people associate having a nice new car with wealth. Yet studies of self-made millionaires show that most choose not to buy moderately priced cars and not luxury models. You can conclude that the habits that lead them to buy practical, reasonably priced cars are a major part of what made them millionaires. The legend of the penny-pinching millionaire is worth considering. Once you own an expensive object, whether it is a video camera, a home or a car, take care of it. Get that oil changed. Follow the manufacturer’s periodic maintenance recommendations. Put the lens cap on when you’re done using it. If the roof springs a leak get it fixed ASAP. Prepay regular expenses whenever you will receive a substantial discount. Paying your car insurance yearly will save you a significant amount of money. Have you been paying for cable TV for years? Some cable companies will give you a discount if prepay your bill. Do you really need the things you think you need? Is your car a reliable means of transportation or a status symbol? Are you buying for yourself or to impress others? Are you self-confident enough to delay the purchase of the new suit or the new car because you know that your self worth does not come from the approval of others? When you are young is the hardest time to fight the pull of peer approval. Yet, every dollar that you can save when you are young will be compounded again and again on your journey to prosperity. Save every month — pay yourself first. Delay the temptation of immediate gratification and status when you are young and live long and prosper.
If you are self employed you should start a SEP-IRA. This individual retirement account for the self employed will allow you to shelter as much as 15% of your income until you retire. The rules governing IRAs are very complex. You will have to research them carefully in order to come up with a plan that is best for you. Be sure to check Success.org for links to detailed information on this and many other financial subjects. When should you start saving for retirement? Today! However there will be some people who, even after they have gone through the exercises in this chapter, carefully analyzed their budget and cut expenses down to the bone, still find that they still don’t earn enough money to reach their financial goals. If that describes you now is the time to consider switching to a higher paying career or getting a second job or working overtime. Find a way. Do what you have to do.
Investing in gold, collectibles or commodities futures takes specialized knowledge and is not a wise choice unless you have or are willing to acquire the necessary expertise. Gold is an inflation hedge — that is, when inflation is high the real price of gold tends to go up relative to other goods and services. The trouble with gold is that inflation has been low for over a decade and shows no sign of making a comeback. So barring the return of inflation it would be best to avoid gold unless you are an economist or gold specialist. Collectibles are often perishable and you have to have years of specialized knowledge in the field to properly evaluate each individual type. Different types of collectible can also quickly be in and out of favor. From modern art to baseball cards to beanie babies, you have to be very careful if you are buying as an investor rather than a hobbyist. Speculating in the commodities futures market will always be a high-risk venture for the average investor. Commodities are often a gamble for the pros and high rollers who have enough of a stake to diversify and offset loses. A bond’s ‘coupon’ is its annual interest rate. So a bond with a 6.50% coupon has an annual interest rate of 6.50%. Bonds are not as profitable as stocks during good times but they are much safer during bad times. The tradeoff is security. If you buy government bonds you are never — barring some complete disaster — going to lose all your money. In part the decision comes down to your temperament. How much risk are you comfortable with. It makes no sense to invest in something that is going to keep you up nights worrying. The prices of existing bonds relate directly to current interest rates. If the interest rate goes up the prices of bonds fall to remain competitive with new issues offering a better return. If interest rates decline the market price of existing bonds paying higher rates will rise. The primary advantage of a mutual fund is diversification. When you buy into a fund, with one purchase you are investing in a variety of companies. As with stocks, you can sell your shares of the fund at any time. You can compare mutual funds at www.morningstar.net. There are many types of mutual funds. Here are broad categories: Funds also categorize stocks by their market capitalization, also known as market cap. There are three types: small cap, medium cap and large cap. Market capitalization is the current value of a companies stock shares. To calculate this you just multiply the current price by the number of shares. Small caps are worth between $100 and $500 million, mid caps are worth between $500 million and $5 billion and large caps are worth $5 billion or more. There are funds, which invest chiefly in one of these types and are thus known as small, medium or large cap funds. Over time smaller companies have shown higher returns so the theory is that small cap funds have a higher upside potential. When choosing a fund you should follow these rules: The fund’s expense ratio should be below 1% This is the ratio of assets to annual fees. These include management fees, administrative costs and other operating expenses. You want a fund that is as efficiently managed as possible since this comes out of your profit. Choose a fund with an investment strategy you are comfortable with The prospectus will explain the fund’s objectives and how they intend to reach them. If you wouldn’t feel comfortable investing in futures yourself it’s a good idea to avoid investing in a fund that will do it on your behalf. Choose a fund that is likely to outperform the stock market If your fund does not outperform the market you’d be better off with a simple index fund. www.morningstar.net has charts that show how well a fund has done relative to the market over time. Buy what you know Warren Buffet, one of the richest men on the planet whose advice you would do well to heed, says that you should invest in what you know. If your work gives you expertise in a particular area make use of that specialized knowledge and you can often outperform the market. If you’re an auto dealer invest in auto companies and their parts suppliers. If you’re a computer programmer invest in promising computer companies. If you have a hobby you are devoted to consider investing in companies involved in your avocation. If you love movies and you think one movie studio is going to do particularly well buy stock in it. If you are into running and have a chance to talk to other runners and evaluate products, you may want to buy stock in sporting goods manufacturers or retailers. But what if you don’t believe you have special knowledge that lends itself to investing? Chances are you really do! Even without in depth knowledge from your career or hobbies you can still make use of knowledge from your experience as a consumer. If a particular chain store where you shop has great service and is publicly traded then you could do worse than to buy some stock in it. If your kids are obsessed with Playstation you might want to consider buying some Sony stock. Top investors like Warren Buffet and Peter Lynch use this same information to choose their stocks. You can do the same and reap the rewards. Before purchasing any stock be sure to get some perspective on how its performed recently. The World Wide Web makes this very easy. If you want to invest in stocks it is essential to have a computer and Internet access. The discounted savings you make in broker fees by trading electronically may be enough to pay for the computer. The principal reason to use a full service broker is for information and advice. If you go the discount route, you are strictly on your own. Stocks offer the potential for sizeable long-term gains but unlike government bonds there are no guarantees. If a company you own stock in goes bankrupt your shares will become virtually worthless. That’s why research is so important before you invest. Many new investors prefer buying blue chip stocks. Blue chip stocks are shares of large established companies. Blue chip stocks have earned an average of 11% annually for the past 72 years presuming you reinvested the dividends. If you wish to buy shares yourself — as opposed to selecting a mutual fund primarily invested in stocks - the simplest way is to buy an assortment of blue chip stocks. For most people investing in stocks with a long-term slow and steady strategy is best. Buy stocks you believe in and hold on to them. Be patient. Don’t rush to sell every time there is a market correction. This not only avoids the anxiety of trading but also saves on commissions. Remember that these averages are just that — they don’t show the extreme fluctuations underlying these numbers. In the 1950s bonds performed miserably while in the 1980s they were outstanding. And while stocks are doing splendidly now investors in 1929 could take small comfort in the fact that the coming depression was an exception to the bullish 20th century trend. More recently in 1987 the market lost 1/4th of its value in a single day! There are investors who lose money every day no matter how well the overall market is performing. All it takes is choosing the wrong stocks. Many investors minimize risk by purchasing shares of an index fund rather than betting everything on a few companies. Be conservative in your planning and count on no more than the 10% average return.
Knowledge is power. Learn all you can. Thanks to the Internet there are now a wealth of information resources that are free or nearly free and are available to everyone. You need to be aware of what is happening today. There are resources to help you keep up to date about this on our web site, Success.org. Stick to your plan. If your goal requires that you save $50 a week save $50 a week. Don’t change your strategy every time you read an article or hear a gloomy forecast on the evening news. If the market has a bad week just keep cool. Take comfort in the fact that you are in for the long term. Time is your ally. Remember, your return on the investment is how much you make after you take all taxes and fees into account as well as adjusting for inflation. High fees at any stage can turn apparent profit into actual loss. Always consider the transaction costs when comparing investment alternatives. One of the most important rules to follow as you are building wealth is to reinvest your returns. When stocks pay dividends use them to buy more stocks. When you collect interest roll it right back into your portfolio. Hold on to what you’ve got. The most successful investors are those who choose their investments carefully and then stick with them. Market timing — trying to buy when the market hits bottom and sell when it peaks — is very difficult. There are links to electronic brokers on Success.org. There is no substitute for your own judgement based upon your own research. Before you give anyone any money, know exactly what the commissions and fees are your responsibility. Patience pays. Compound interest favors those who show persistence and the more persistence they show the greater the rewards. Get rich quick plans almost always fail. Get rich slow almost always works. Individual Retirement Accounts (IRAs) An IRA allows you to invest up to $2000 annually tax deferred. While that may not seem like much to some the wonders of compound interest can make it quite substantial over time. An IRA may be invested in several ways including stocks, bonds and money market accounts. Simplified Employee Pension (SEP-IRA) An IRA set up by an employer. An employer may make up to $30,000 or 15% of an employee’s compensation annually to the employee’s IRA. Keogh Plans If you have a business these plans permit you to defer paying taxes on up to 25% of your salary which can then be placed in this fund and invested. The upside of this is you can contribute a great deal more than with any other plan, the downside is it involves a lot of complicated paperwork to file. Deferred Annuities Deferred annuities are contracts issued to an investor by an insurance company, generally in exchange for a single payment. The annuity provides lifetime payments to the investor starting at a some point in the future. Until that time the annuity earns and accumulates investment income without being taxed. Deferred annuities generally earn interest at a rate that fluctuates with market interest rates. The rates are not locked in — the insurance company can pay what it likes — but they must pay a competitive rate to prevent investors from closing out their annuities. ou can decide to close out the annuity at any time taking all your money in a lump sum. When you do so you must pay tax on the accumulated income. Variable Annuities A variable annuity is a specific type of deferred annuity. Earning on variable annuities also accumulate tax-free. But a variable annuity’s value varies based upon the rise or fall of the stocks or bonds in which the annuity is invested. When choosing a variable annuity be aware that the fees charged often offset the tax benefits. When planning for retirement keep in mind that the closer you are to retiring the less risk you can afford. It is one thing to invest heavily in stocks in your thirties and be hit by a market crash. After all, the overall long term historical trend is that the market is headed up. However if you’re just five years from retirement it may not trend upwards soon enough for you to recover from your losses! So a good rule is to reduce the proportion of your portfolio allocated to volatile investments as you get older. There are several types of life insurance. Regular ordinary life insurance is usually sold in units of $1,000. It may be used to provide a single lump sum payment or continuing income to the beneficiaries or a company to insure the life of a valuable employee may use it. In most cases (other than term life insurance) ordinary life insurance builds value that can be borrowed against in emergencies. Whole-life insurance pays the face amount of the policy upon the death of the insured. Premiums are paid throughout the life of the insured person. Limited-payment life insurance, as the name implies, charges premiums for a limited number of years unless the insured dies prior to the specified limit. A single payment policy is a specific case of a limited-payment policy. Premiums for limited-payment policies are higher than for ordinary life insurance since the payments are made over a shorter time period. Endowment insurance is payable upon the death of the insured or at a specified date (the date of maturity) provided the insured remains alive. Premiums are, in most cases, paid from the date of issue until the date of maturity. However they can be limited to a shorter time or even made in a single lump sum payment. Premiums are high because of the short timeframe. These policies combine elements of savings and insurance. They can be used for education, retirement or to make mortgage payments. However higher yields available from other investments make this option uncompetitive. Cash value policies such as whole life, endowment and limited payment life must provide the cash surrender value of the policy if the insured terminates it. Term life insurance only pays benefits if the insured dies within a specific timeframe. If the insured lives to the end of the specified time the policy is terminated unless it is renewed. Premiums are lower for term policies because it only has to pay benefits if the insured dies within the allotted time. It usually has no cash surrender value. With each renewal premiums increase because they are based on the age of the insured when the policy is renewed. You also may have to take another medical exam and this may cause premiums to increase even further. Many term insurance policies allow the insured to convert to whole-life policies. You should choose term insurance if you are young and you don’t have a lot of money to pay the higher premiums required for other plans. A specialized form of life insurance is credit life insurance. If the insured takes out a large loan this insurance protects their family from any debt that remains if the insured dies before the loan is repaid. Group life insurance applies to a number of people in a business or other organization. A contract is issued and each member is given a certificate showing the amount of insurance and the beneficiary. Group life insurance provides economies of scale and the savings are passed on to the insured through lower premiums. These policies include a conversion clause allowing the insured to convert to a nonterm policy upon leaving the organization without requiring a medical examination. It is generally issued on a 1 year renewable term basis. Because of the potential cost savings you should check to see if you are eligible for group life insurance through your employer or any professional associations you belong to. Spend less than you make. Frugality should be encouraged and taught to loved ones and employees. To maintain or exceed your current quality of life into your retirement years, you need a long-term investment plan. You must determine and account for your insurance needs including medical and long term care, housing needs, ordinary expenses and leisure costs. Look to your pensions, inheritances, savings, retirement plans and real estate investments for solutions. The best time to draft and begin implementing this plan is immediately. You want to begin investing as early as possible to take maximum benefit of compound interest. Most people don’t have a plan and too many not a clue. As a member of the Master Success System, you are different. Study, plan and act. Financial planning should be a priority to ensure a smooth pleasant life journey. Your assignment for this chapter is to start saving. Even if you can only put aside a small amount begin today. You will be establishing a good habit that will last a lifetime. You will know that you moving in the right direction. If you can you should commit to saving at least 10% of your income. As soon as you get paid set aside this money. Put it in a savings account until you have saved enough to begin a serious investment program. Once you begin you’ll be surprised how simple it is to start accumulating substantial wealth. Everyone knows that they should save and invest. However, a great many of them are careless and end up mired in consumer debt. You don’t have to be one of them. By following the simple steps in this chapter you can master money and by so doing take control of your life.
Go to Lesson 6
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