So, you want to be rich? Great! In order to understand and properly break down wealth accumulation we have to look at its elements first. After looking at the elements we will break down the process of accumulating wealth into three stages. In each stage we will look at the behavior required of you as well as some suitable investments. This article will focus on the first stage. To try to keep the article as short as possible I will not go into extreme detail and will focus on the principles.
Essential elements of the wealth accumulation process are saving, investing and insurance.
Spend less than you earn, sounds simple enough. We must constantly have a surplus. The best way to do this is to make savings mandatory or to pay yourself first as they say. That means deciding on and committing to a savings plan before you spend. By having your savings fixed as a percentage of what you earn you do 2 important things
1 Automate the process of saving
2 with increases in income the amount saved automatically increases.
A dollar saved is still a dollar. We increase our savings through investing. There’s a variety of investment products and vehicles that grow our savings such as money market instruments, shares, unit trusts, assets and real estate. These varying vehicles and products have different thresholds. Property requires a greater investment than unit trusts. Investments vary in character but the one thing you must always look for at any stage is security of your investment. More on this later.
Rule number is to protect your investment. In the early stages of your wealth accumulation journey your investment is yourself. Your ability to earn an income in particular. This means your health, to enable you to keep on working or running your business.
Insurance is essential because it provides reassurance against risk of loss. In the case of health insurance, it guarantees or at least assists your ability to bring yourself back to the point where you can continue to earn income. There is a great misconception that those at the lowest income levels can’t afford insurance. However, these are the people who require insurance more than anyone else because they can seldom afford to lose anything.
Having understood these three arms, we will look at a step by step method to investing and growing your money. While the idea is to be wealthy, we must understand that wealth has steps, like a ladder which we must scale one by one in order to reach wealth. The key here is that at different stages in wealth accumulation you use a different mix of saving, insurance and investment.
The steps in getting rich are security, comfort and wealth. In this article we are going to focus on the first stage; security.
If you’re just starting out this is where you are. While the goal is wealth the immediate goal is security. It’s about having a safety net or guaranteeing a minimum level at which you operate. Your primary goal is to have between 3 and 6 months’ worth of expenses saved up. Let’s illustrate. Say you earn $500 a month and your nominated savings rate is 10%. Each month $50 will go to your savings account. Assuming you nominate to have 3 months’ worth of expenses saved up ($1500) it’ll take you 30 months (2.5 years) to achieve this. 6 months’ worth of savings ($3000) would take 60 months (5 years). While it does sound like a very long time for such a small goal that safety net will help you in the event of loss of income or other emergencies which may warrant it.
In addition to this savings pocket one needs to have insurance products such as medical aid. Distinct from the security fund these insurance products assist with specific emergencies. Building a decent lifestyle is hard enough without worrying about losing it all. You’ve seen people who earned decent livings whose lives fell apart when they lost their incomes for whatever reason. The safety net maintains your lifestyle in the event of a loss of income. The right period to save for depends on how long a bout of loss of income is expected to last. In our economy, the longer the better.
Money like this is best placed in a high interest account such as a call account or in money market instruments. These bear significant interest on the investment and will accelerate the growth of your investment. They tend to take a little time to liquidate. The most important thing at this stage is to avoid risk as much as possible. Yes, higher risk brings higher return but at this stage you cannot afford to take risk. An increase in income will also require that you top up your security fund.
The purpose of your security phase is to give you a strong footing. I’m sure you know a story or two of someone who was doing well financially and then boom they lost it all. While some shocks are unavoidable it would be a travesty to see your rise to riches be derailed by something that was entirely avoidable. The takeaway from this is that we have to look at being rich as a journey not a destination. And this journey has different phases or steps. Along the phases you will have different risk appetite, power and options. Essentially each different stage requires different behavior patterns in order to succeed. This article was inspired by Robert Kiyosaki’s “You can choose to be rich”.