Never abdicate your responsibility
Personal finance can be overwhelming and complex, but if you want to partner with an advisor to help you protect and grow your wealth there is a bare minimum you need to know so you can assess whether your wealth is invested properly and you have the factors you can control on your radar. There is nothing more dangerous than being ‘unconsciously incompetent’ – not knowing what you don’t know.
Here are the handful of numbers you must know (in order of priority):
- The “repo” (repurchase) rate (currently 7%), prime interest rate (usually 3.5% above repo rate, now at 10.5%) and the interest rates of all the loans, mortgages (usually close to prime), credit cards ( as high as 18-24% at the moment), car loans etc. that you have. Why? This will illustrate which debt must be paid off first. Read HERE for more on ‘Smart debt’. This will also give you a benchmark that you can rate your investments against.
- The inflation rate (currently 6.3%, the top end of the target range is 6%.) If you know this number then you can do a simple calculation on how well your investments are doing. If your investments don’t keep up with inflation then the ‘purchasing power’ of your investment erodes. The actual rate of return, minus inflation, gives you the ‘real’ rate of return which is what you should focus on, not the bottom line.
- The difference between “Interest” (money market), “Yield” (bonds but taxed as interest), “Dividends” (from shares) and “Capital growth” (shares and property). These all grow your wealth but are very different, have different risks and are taxed differently.
- The very basics of your annual budget. Your net income, fixed expenses, investments, variable expenses (groceries, entertainment, clothes, fuel, cell phones etc) and ‘disposable income’ (what is left over.) If you ever apply for a loan or mortgage you’re going to need these numbers anyway. Disposable income should never be zero. If money burns a hole in your pocket, put it out of the way on payday, say into a call account. Living within your means and continually saving is the key to long-term wealth.
- The age at which you (realistically) want to retire. This is the line in the sand where you essentially stop investing and start drawing down on your income.
- What your annual budget will look like at retirement. Once you have your present day budget, this is easy. You take out things you won’t be doing at retirement – mortgages, school fees, debt and add back things you will – travelling more perhaps. You or your advisor will now be able to project how much you will need in investments to retire and live on your income until at least 95 or 100 years old.
- The monthly contributions you need to go into your investments to retire on your due date, at your desired income. Knowing the actual capital amount you need (above) is useful 10 years out from retirement, longer than that it is pretty meaningless, focus on eating the elephant one month at a time.
So, let’s just recap from Part 1 (which you can read HERE if you missed it). Wealth is what is left after you have consumed your income. In part one we looked at the income component. I debunked some of the myths around passive income before you think that is going to answer all your problems. I also emphasised that the working world is changing and it is not cool to be clueless, especially when it comes to technology. If you don’t keep learning and making yourself relevant, you’re going to come short. Nobody wants the money to run out before they do. You might not want to hear it, but it is the consumption component of your wealth equation where you can make the biggest difference, and most of it immediately. There is no point in scrabbling around to reduce the fees on your investments if you’re living large and beyond your means, making those few basis point saving on your investments fade into insignificance.
Most of our spending is a result of years of habits. Some of those habits, or perceptions, about money were laid in childhood. If you really want to make a difference to your wealth mind-set, you need to let go of blaming everyone else for your behaviour and own it. Sure, you might not have been set the best example in the world, your parents might not have been able to afford the best education, but as soon as you are an adult and have control over your own money it is time to stop blaming your parents or teachers and claw back that power. There are so many resources out there (including this one) that will help you do that. Irrespective of what you earn you should know, almost on a daily basis, what money is coming in, and what is going out and where. Fortunately there is an app for that. If you gave a huge sigh of frustration at that comment perhaps you need to go back to Part 1. It is not cool to be clueless, embrace technology, and not demonise it because you’re too lazy to learn. (Harsh and not politically correct I know but now, more than ever before, simple apps will save you massive amounts of time.) The app I like best for this daily money management is 22seven (free on Playstore and iStore). Why? It pulls all your transactions from all your accounts and most investments. You can then decide on your own categories and once done, all the transactions from that place (say Pick n Pay or Builders warehouse) will go into that category. You can then set the limits for each category. After a couple of weeks it is very clear where your weak points are. If you rarely look at your bank statement, then you might find long forgotten debit orders. It is those day-to-day expenses, accumulated over years that erode your wealth.
Emotion and wealth – a lethal mix?
Avarice: Coveting something is a very familiar behaviour, but is often disguised and whitewashed to be almost acceptable. It can be disguised as ambition, determination, desire or drive. Kept in check, these emotions can drive us to be better, do better, innovate and create. When out of control it will eat into your consumption and lead to the collection of ‘stuff’. Steering avarice into the ‘collection’ of true assets – rental property, investments, stocks, even gold – is the doorway to long term wealth. If you want some independant help with this, consider some financial coaching. Have a look HERE.
Envy: Keeping up with the Jones. Consuming your income without any concern for simultaneously building your wealth. It is so easy to fool yourself, call something an ‘asset’ when it isn’t. Your home, your holiday house, your cars and toys. Envy usually masks an underlying need to be recognised, a lack of self-esteem. Unwinding this behaviour alone would have a huge impact on your wealth.
Wrath: When you see red, your vision becomes very cloudy and decisions made in anger one will inevitably repent at our, much poorer, leisure. There is nothing like losing money unexpectedly – whether in reality or merely ‘on paper’ to get the blood boiling, and a great way to dissipate that is to blame someone else. The best way to stop this emotion impacting our wealth, and relationships with your advisors is with knowledge. I don’t respond well to anger, and one of the main reasons I blog so extensively is so that my clients don’t get nasty surprises or have unrealistic expectations.
‘Needs Analyses’ are so last year…
One of my mother’s favourite phrases was “I want never gets…” a typical ‘protestant ethic’ I guess. I have news for her, wants are what makes the world go round. Once we have sorted out our ‘needs’ the only thing that takes our productivity to a new level is chasing ‘wants’. Marketing is the art of changing wants into needs – so we feel better about it. We never knew we ‘needed’ things like deodorant, toothpaste, conditioner until marketers got involved and changed your perceptions. Is it still socially acceptable to ‘need’ something, but not to ‘want’ something?
The truth of it is that your dreams – your bucket list – the stuff that puts a smile on your face – has everything to do with wants and nothing to do with needs. “Needs” drag you out of bed on a Monday morning to a grumpy boss and job you try not to hate. “Wants” propel you skipping out of the office to enjoy your annual vacation, or to that concert you’ve been thinking about all week or into the bookshop to buy that brand new book by your favourite author.
This distinction between wants and needs have become increasingly clear to me when helping clients to determine exactly what their ‘emergency fund’ should be – that bucket of funds as a safety net if you’re retrenched or a fat expense comes along and blindsides you. This “needs” conversation is often involved in discovering ‘temporary disability’ needs too. I think it is smart to cover risk, but no more or no less – I would far rather a client divert hard earned income into wealth and investment than over-insurance. This ‘temporary disability need’ is the amount of money you need to keep a roof over your head, food on the table and kids at school. The real needs. When push comes to shove, given a list of our monthly expenses, we can all prioritise expenses. The things that will get paid first. You will get advisors who will try and prioritise it for you, but it is very individual because it is based not just on needs but wants that are your needs.
Wake up and diversify
Business people can’t help but be concerned about the State of the South African nation – and when former government loyalists start sounding the warning bells it’s time to protect your assets (R.W. Johnson’s “How long can South Africa Survive”, LINK HERE – RHS of the Blog). There are a lot of things to be alarmed about. Exchange rates weakening daily (who remembers R/$ parity?), a president that is a laughing stock but thinks it is all a joke, a public service that has grown 25% in the last decade while the public sector has only grown 2%, international investment rating one above junk, inflation headed north thanks to above average salary increases, rolling blackouts thanks to incompetence and squandering of public funds over two decades, little or no Direct Foreign Investment – especially in our resources – thanks to new confiscatory laws… The list goes on.
You have two choices – You could cry into your beer, rant on twitter or emigrate – OR structure your life to make the most of it and increase your wealth, make money. These cross-roads have been navigated before and we have survived (Rubicon anyone?) The biggest problem comes when those changes or threats seriously affect your ability to earn and you haven’t anticipate it.
Focus on the things you have control over.
- Industries grow and wane, that is the order of things. If you’re an employee you need to keep learning and be flexible so that you can’t be retrenched or sent out to pasture early. As you get older, this often is more difficult, and we will resist the change until it is forced upon us. It is not cool to be clueless. Be curious not dismissive, and never abdicate the responsibility of your wealth to someone else – not an advisor, bank nor spouse.
- Diversify your investment. Your retirement pot shouldn’t just be in one place. Yes, investments are important but the growth of these is going to be linked to the economy. If you don’t think a 10 year recession is possible, ask Japan (let alone Zimbabwe). If you’re an entrepreneur how much of your future wealth is tied up in the company – 100%? That’s normal but not necessarily prudent. There comes a time where you need to realise that value and diversify.
- Start a rental property portfolio. In order to maximise the tax benefits while you are building your portfolio, speak to your accountant about financing and company structures. Because you don’t get much of a Capital Gains tax break for second homes, a ‘property company’, perhaps also inside a Trust is a good idea right from the start.
The voices in your head
We’ve all heard the phrase ‘money can’t buy happiness’ – with all the anecdotes to support it. Miserable billionaires, depressed lotto millionaires. Is it really so? We all know that poverty certainly doesn’t buy happiness, what does?
We have some pretty unhelpful double standards that we try to live by. Having ‘stuff’ and living life ‘loud proud and conspicuous’ is classified as ‘successful’ and is envied and emulated. The fact that that ‘conspicuous consumption’ is often funded by massive debt is considered irrelevant – unless you are declared bankrupt. It’s a fine line. The more debt, the less it takes to tip you over the edge into bankruptcy or debt review and the stigma that goes with it.
You don’t have to be massively in debt to get into financial trouble, so forget all those smug thoughts about how much better you are than your neighbour. Retrenchment of just one of the bread winners in a family can be enough to tip the finances into real trouble, especially early in their careers with children and new bonds. A bad accident or cancer scare can devastate your finances – even on medical aid. Loss of just one major client in a business can devastate its cash flow and owners are usually the first to take a pay cut. Anyone supplying the government exclusively is sitting on a knife edge – you can go months or years before being paid. The only protected employment left is in the government, they are also the only ones that have been ‘solving’ our unemployment problem in the last 8 years (paid for of course with tax-payers money, why else do you think the tax rate went up?) Years of below inflation increases in the private sector has eroded everyone’s disposable income – not helped by way above increases from monopolies like Eskom, water, services. We are all less well off than we were in 2007, and for those that didn’t have enough slack to begin off with, there are no more notches left to pull in on the belt.
So, what creates happiness and can we bottle it? Obviously thousands of books have been written on the subject, but one of the biggest factors is the ‘absence of stress’. Financial stress is only one small part of that, sure. There is family and relationship stress, career stress, health stress and others – but financial stress is a big one – and it can impact on all the others. Financial stress between couples is the biggest cause of divorce. This stress can be caused by couples with incompatible financial behaviour (saver versus spender) or two big spenders having to live with the fall-out from their financial behaviour.