Investing can be as simple or as complicated as you want it to be. You do not have to be a hedge fund manager to make money in the stock market. The 21st Century has made everything easier for us; there is always a simple option. Simple investing doesn’t mean inferior returns either! in fact, simple investing has been proven to beat traditional mutual funds over the long-term (short term is a toss up). Even billionaire Warren Buffett tells everyone to keep investing simple and you will beat 90% of complicated investments. I like those odds!
The secret to simple, stress-free investing can be summed up in two sentences, but before I tell you the secret simple code to live by, we need to take a small step back. Otherwise those two powerful sentences might bounce off of you and you won’t be able to really appreciate what those three sentences can do for your life.
Being wealthy does not mean having a Jacuzzi full of $100 bills and diamonds. The reality is the money you make and invest and how you invest it only accounts for 20% of what ‘being wealthy’ really is, the other 80% is all in your head–your mindset.
Ask yourself if you’re feeling wealthy today? Are there people in your life that you love? Maybe they love you back? Do you live somewhere with access to clean water and healthcare? Maybe you have the freedom to practice your religion without facing deadly persecution? When the majority of people living on this planet live on less than $2 per day, even homeless people in America are ridiculously wealthy in comparison–what does that say about my wealth? I am one of the wealthiest individuals on the planet just by earning a slightly above median American wage–and I am so thankful for it!
Only investing to get more 1’s and 0’s added to your bank account is a recipe for disaster—you will never be happy with what you have and will always long for more money. But if you are already emotionally wealthy, then the journey to Financial Freedom will be a lot easier and a lot less stressful.
Michael Milken, AKA the Junk Bond King in the 80’s, earned more than $250 million a year as the head of a large bank’s bond trading division. Apparently this wasn’t enough and he start cutting legal corners to get larger returns and more money. He was later indicted and sentenced to 10 years in prison for insider trading. He had to pay substantial fines, but still had hundreds of millions of dollars left for himself, but how wealthy do you think he was feeling inside prison? A month after his release, he was diagnosed with late stage cancer. All the money in the world couldn’t buy him the one thing he wanted: more time.
Michael turned his life around and donated millions to cancer research. His cancer is currently in remission.
The real recipe for happiness has nothing strictly to do with money, but constantly challenging yourself and always learning and growing–earning more, loving more, and creating more all come straight from that principle. That is the key to emotional wealth.
So ask yourself again, are you feeling wealthy today?
THE PURPOSE OF INVESTING
When your primary source of happiness is built on a foundation of emotional wealth, having the paper value of your investments go down 10%-50% is not near as scary. Now you can think with a little more logic than every other investor panicking over the smallest bit of speculation on how the economy is going to do tomorrow. We are not as concerned with the paper value of your investments, we are concerned about income so that we can be free to pursue whatever challenging endeavours suite our fancy. Later I will show you how the paper value can plummet with the income remaining fairly steady (pretty neat fact often hidden by fear in times of market panics).
The entire purpose of investing is to stop trading your time for money, and start trading your money for money. The goal is to have the income from your investments cover all of your expenses so that you never have to work again, but you do… You can keep working because it makes you happy. You no longer have to work a 9-5, but you can restore cars and sell them, or start a nonprofit, or go be a SCUBA instructor–it doesn’t matter what you do, as long as you keep challenging yourself in one way or another. The only difference is money is no longer a deciding factor in anything you do. Sounds great right? It is easier than you think to achieve this level of Financial Freedom once you follow Secret #1.
Related: What Investing is All About: Freedom
- Build your happiness on a foundation of emotional wealth, not the amount of zeros in your bank account, and realize the entire point of investing is to create income, so that you stop trading your time for money and are free to pursue other challenging endeavors.
MEET YOUR MONEY FACTORY
Money has the power to create more money when invested. To some people this is common sense, to others it’s voodoo magic! But there is absolute truth to the statement. Stocks pay dividends, someone living in your property pays rent, and bonds pay interest.
It is time for a paradigm shift–a change in how we view money. No longer is a dollar bill just something that can be traded for a Starbucks latte, but a dollar bill is now one of your employees… Every dollar you invest is an employee working around the clock, 24/7, to earn you more money. We are going to build a factory FILLED with your employees, working around the clock to create a perpetual income stream for you.
Before we start filling our Money Factory with all of our hard-earned employees (dollars), we need to create a plan. We need to create the Blueprints of our Money Factory. The Blueprint will just be our plan and guideline for what we want to invest in. There are a million and a half ways to set up your Blueprint, but today we’re just going to focus on creating a simple Blueprint.
Creating a Blueprint for your Money Factory is actually pretty simple. Your 401k, any rental properties or REIT’s (Real Estate Investment Trusts), or any taxable accounts with stocks or bonds or CD’s (Certificates of Deposit) are part of your Money Factory.
When Warren Buffett, one of the greatest investors of all time, dies, he has gone on record to say the Money Factory he will leave his family will consist of 90% sp500 index funds and 10% short-term government bonds. Talk about a simple Blueprint!
The greatest investor of all time is leaving his family a VERY simple Money Factory. Warren Buffett knows that traditional mutual fees are too high and eat into your returns. He bet a few hedge fund managers $1 million (will go to charity) that the hedge funds could not beat the performance of a sp500 index fund over the next decade; Buffett is currently winning the bet with a large lead.
Low-cost index funds like the sp500 or a total market fund are going to be your best friend if you want simple investing. Index funds do not try to pick the best stocks, instead they just buy ALL the stocks in an index.
The sp500 index is simply 500 of the largest companies in the US. So if you put money into a sp500 index fund, you are buying little shares of all 500 companies. You own a part of all 500 of those companies. So if you invest in a sp500 index fund, you can expect to match the performance of the sp500 index you always see on TV.
A total market index fund just takes this idea one step further and buys ALL of the stocks. Seriously, it buys all the 5,000+ stocks listed on the New York Stock Exchange. You get more exposure to smaller companies, which have historically returned more but have been more volatile.
Vanguard and Fidelity offer the best low-cost index funds in the business. If you are just starting out, I would recommend looking into starting an account there. If you have an account with Vanguard, they will not charge a transaction fee to invest in their funds. So you can easily invest a portion of your paycheck every week without getting killed by trading fees.
My personal Blueprint for my Money Factory looks like 55% stocks and index funds, 40% rental property, and 5% cash or short-term government bonds. I personally love real estate and being a landlord, but some people don’t want to deal with tenants, so you can substitute a REIT or REIT index fund here. I am young, so I want growth more than safety in my factory, but when I get closer to early retirement, I will shift things around to be more conservative: pay off rental mortgage and have more in cash and bonds.
Here is a rough idea of how much you need to generate a certain level of income:
Here are some investments to put in your Blueprint and how each of them generate income.
- Dividends from stocks and index funds. When companies are profitable, they pay the shareholders dividends in the form of cash. The dividends can be re-invested to buy more stock or be deposited into your checking account. A sp500 index fund currently yields ~2.1%. Meaning if you had $500,000 invested in a sp500 index fund, you will passively receive $10,500 every year. A total market fund will yield ~1% or $5,000/year.
- Selling stock also generates income, but is not as passive as dividends–we have to be a little smart about this. The 4% guideline is a popular withdrawal rate to follow in retirement so that you will not run out of money. This means you can withdraw a total of 4%, including dividends and selling stock, from your index funds. So if you have a dividend yield of 2%, you sell 2% of your stock during the year for a total withdrawal rate of 4%.Check out this probability calculator on why the 4% is fairly safe. The 4% guideline combined with flexibility in your spending during market crashes makes for a pretty safe retirement.
2% dividend + 2% selling stock = 4% (safe-ish)
Meaning if you had $500,000 invested in a sp500 index fund paying you $10,500 in dividends, you can sell $9,500 of stock during the year for a grand total of $20,000/year in income.
Bonus note: If you just retired and started withdrawing from your Money Machine, you should try and not sell any stock during the crash. The first years of retirement are the most important. If you sell too much stock for too cheap, you might not recover. If you are planning to retirement soon and a market crash like 2008 happens, it is better if you can keep working until the dust settles, even if its part time work, or alternatively decrease your spending during the crash so you don’t have to sell any stock and just rely on the dividends, rent checks, or selling bonds for your income.
- Rent checks. If you own a rental property, someone will be paying you regular rent checks. Real estate can be a fantastic source of income if you can handle being a landlord. Even if you use a property management company, be prepared to get a little involved from time to time. I find that if you take your time in finding good tenants that real estate is a walk through a park filled with trees that grow money.
Related: Rental Properties: Daydreams or Nightmares?
- Real Estate Investment Trusts allow you to invest in real estate without having to become a landlord. They can also provide a good source of income, but you give up all control over the business. Many REITs use leverage (debt) to magnify profit, but it also magnifies losses, so REITs are not as ‘safe’ as a paid off rental property.
- Bonds and CDs pay you interest. You basically lend money to someone and they pay you interest on it. These are great for safety, but not so great for making money. The interest rates on these currently barely beat inflation. These are your safety net during market crashes. Withdrawal from your bond index funds before selling any stock. When the market recovers, sell some stock and buy more bonds.
So all you need to do is pick out a few of these and create your Blueprint for your Money Factory. You can copy Buffett and stick to index funds and a small amount of a short term bond index. You can add in a rental property or two if you like being involved in landlording or fixing properties, or just add some REITs if you still want to invest in real estate. When nearing retirement, re-assess your Money Factory and maybe make a more conservative one. Hopefully by the time you retire you will have a good taste of what assets you like and how much risk you can handle. Whatever you do, just keep it as simple as possible. Index funds are simplicity’s best friend.
Since your happiness is based on emotional wealth and not adding more 1’s and 0’s to your bank account, when the inevitable market crash happens and everyone is running around with their hair on fire in panic mode, you will be able to take a step back and remember your plan. Panicking and selling off your income-producing assets for pennies on the dollar is basically the worst investment mistake ever.
Let’s look back to the greatest economic disaster in our lifetimes. Everyone remember 2008 when the whole planet seemed like it was about to implode? How do you think your Money Factory fared during this perilous time? WAY better than most people think!
While stocks were dropping by 50%, their dividends weren’t. If you own a diversified index like the SP500, your income only dropped by 23.2% during the worst financial crisis of our lives.
If you owned rental properties, the story was even better during the financial crisis! While housing prices were dropping through the floor, the rental income from rental properties did not change at all during the ‘housing’ crisis! Do you think landlords were selling their rentals for 50% off during the crisis? Heck no!
Even if prices are crashing during a market crisis, remember that you still own the same amount of rental properties and the same share of businesses with your stocks. The only thing that changed is people are willing to pay less for those assets during uncertain times.
RE-INVEST FOR COMPOUND GROWTH
Some people will invest in a stock and it goes up, so they sell saying “We did it! We won the stock market! Let’s go on a vacation to celebrate!” This is fine every once in awhile, but if you constantly raid your Money Machine, you are taking away the power effects of compounding returns.
While you Money Machine is still in the “growth phase” you should be reinvesting any dividends, rent checks, or interest earned so that the compounding will really kick your Money Machine into high gear. If you re-invested your dividends from a SP500 index fund over 30 years, your total return almost DOUBLES!
Once you put money into your Money Factory, that money should stay there forever! It is exactly where it needs to be. Your Money Factory is not a savings account that you will raid when you want to buy a boat or go on vacation. The money in your Factory is there to work for you for the rest of your life; your Money Factory is a long-term investment!
The fundamental rule of building long-term wealth is to spend less than you earn and invest the difference. You seriously, 100%, cannot ever get around that. You can earn more, or save more. If you start from zero net worth and can manage to invest as much as you spend (a 50% savings rate) you are looking at Financial Freedom in 17 years. The more employees (dollars) you put to work in your Money Factory, the faster you can get to Financial Freedom!
The absolute best way to get to Financial Freedom is to consistently invest a portion of your paycheck. Since the foundation of your happiness is not 1’s and 0’s or material possession, but is based on emotional wealth and challenging yourself to grow, you will find it easier than ever to save more money.
Your 401k is automatically taken from every paycheck. After maxing your 401k contributions (max is $18k per yer), consider setting up an auto transfer with your bank or Vanguard/Fidelity to consistently save and invest.
Secrets the simple, stress-free investing
- Build your happiness on a foundation of emotional wealth, not the amount of zeros in your bank account, and realize the entire point of investing is to create income, so that you can stop trading your time for money and are free to pursue other challenging endeavors.
- Create a simple Blueprint plan for your Money Factory and stick with it, don’t panic and stay invested during crashes because you are in it for a lifetime of income, re-invest for compound growth, and consistently put a set portion of your paycheck into your Money Factory.
STEPS TO GET STARTED
Now you understand the basics and the mindset you need to become Truly Wealthy, here are a few steps to get you started.
- If you have a decent 401k plan available to you, start there. Max your contributions ($18k) and look for index funds to invest in. Some 401k’s will not have a lot of options or charge fees that are very high. Vanguard’s sp500 index fund fee is only 0.05%–that is the bar to beat.
- Open a IRA/Roth IRA and max these second (if you meet the eligibility requirements). Fidelity and Vanguard are something worth looking into. You can contribute $5.5k each year and the IRA/Roth structure provides excellent tax benefits. You can set up automatic transfers and treat these like a mini-401k.
- Save some after-tax money for more index funds/bonds for your Money Factory. Or save to invest in a rental property or REIT. Fidelity and Vanguard offer taxable brokerage accounts as well and will look almost identical to the IRA/Roth options.
Good luck and I wish you well on your journey to Financial Freedom. If you are still hungry for more knowledge or have any questions, drop us a comment or email. We write more in-depth articles on investing all the time. There is also a wealth of free information on the internet just waiting to be read, so go challenge yourself a bit and be happy because of it.
Note: I mentioned Fidelity and Vanguard because I seriously love their services. I do not receive anything from recommending them. There are still plenty of other financial companies out there if you don’t like what Fidelity and Vanguard have to offer.