time is your friend, and enemy (be a tortoise)

We've all heard this, and it's true:

If u save $2k a year at age 20 you  will have  $900k at age  60 (assuming the historical widely accepted 8% return)

If u start at 40 you will only have 180k

Remember the old story of the tortoise and the hair? Be a tortoise. Constant and steady.

Do you understand the difference between the two curves below when it comes to interest? 

If you don't, odds are that you are a sucker and will always be a debtor, not a creditor.
Does your interest compound on your initial blance? Or does it compound on the new balance?


Know the Difference between Simple and Compound Interest

The power of compounding can have an astonishing effect on the accumulation of wealth.   This table shows the results of making a one-time investment of $10,000    for 30 years using 12% simple interest, and 12% interest compounded yearly and quarterly.

Type of Interest	Principal Plus Interest Earned
Simple	46,000.00
Compounded Yearly	299,599.22
Compounded Quarterly	347,109.87

read more about simple and compound interest here










Take a minute to review the graph below by Franco Modigliani , 1985 nobel prize winner

The shaded area to the left is your average 20 year old in school with mounds of debt. (or mounds of debt because of a mortgage, etc)


Think of the thick black line as consumption.
Think of the thin black line as income.


You can only do 2 things.

1. Increase income
2. Decrease consumption

Practical Principals for Provident Living


1-Increase Income: save between 15-20% of income now

• set up automatic withdrawal from bank account - if you have to make a conscious decision to save every month you'll never do it
• save all of tax returns/unexpected earnings
• If you have debt, pay it off. That is a form of saving. When you pay off your debt do not increase your consumption, just keep making the payments, but this time not toward the debt, toward savings!

2-Push down consumption

• find a few small habits and eliminate them 

THERE IS NO "MAGIC BULLETT"

Many believe that there is one gov't program that we should cut that would fix our budget issues as a nation: wrong. There are 200 small ones that add up. Same with personal finance. Watch your spending. Small things add up.(38k cafe late)

• don't buy on impulse
• budget
• Don't buy lock-ins ie gym memberships or cable tv
• Let's put this in perspective: If I contribute $1 per day ($360 per year) for 50 years, at 5% Return, I’ll have more than$79,000! (check out this post for more info)

I had to bust out my excel and do some math.

The chart below shows that if I saved a dollar a day with just a 5% Return how well off I would be doing (using compound interest)

So Just think of all of those $1/$2/$10 purchases. They add up. 

understand the power of exponential growth!

3-HOW to save - not in one basket, and diversify
Get into indexed funds for the long run. Buy now and let it sit for 40 years.
Many studies have been done on this, the best way to diversify in the long run is to have 4 indexed funds:

1-a Russell fund

2-s&p 500

3-international funds

4-emerging funds 

• indexed funds get an 8% ROI in the long run, don't bother hiring a broker
• be careful of indexed funds transaction costs ($10 a purchase, etc.) and buy accordingly
• indexed funds have .015% operating costs, therefore 7.85% return on average (real rate of return)
• avoid mutual funds!!

Remember,

YOU ARE NOT SMARTER THAN THE MARKET!

4-You can't get something for nothing.

US Treasury bills are the only certain rate of return.

• Right now US Treasury bills rate of return is at about 2%. Don't believe anybody that tells you that there is a certain 20% rate of return
• It is a game of the tortoise and the hair. If you are a tortoise you'll be wealthy when you're old.
• Buy now and hold. You will get 8% real rate of return.

5-Minimize Debt

Only take out debt when there is an asset i.e.:

• Home
• Education

NOT for consumption, ie

• Car
• Vacation

and, don't borrow more than the asset is worth.

If needs be, take on more debt and work less if that is what it takes to get thru school. Don't get a lousy education by working full time. It doesn't make sense to work for $10/hr when your opportunity costs are much higher.

6-Insure against Catastrophes

HIGH DEDUCTIBLE = GOOD

Only insure for something that will impoverish you. Don't insure for glasses and dental. You can save for those. Same thing with auto insurance. High deductible. When you have people who depend on you (ie wife, kids) get life insurance. Always buy term, not life insurance.


thanks to JR Kearl and other sources cited.
-ahs