Paying yourself first

This is a common theme across the books and podcasts, though some advocate taking it to extremes. Essentially it means that you set a standing order to pay into your stocks and shares ISA as soon as you get paid, or whatever your investment vehicle of choice is. It then becomes just another bill, excluded from the mental budgeting we all do was we bridge the seemingly endless void between paydays. It’s true to say, if you save/invest what you have left at the end of the month, it will pretty much be zero. 

I’ve been doing this for a few months now, and there has been a couple of months when it’s been difficult due to car bills etc. I think you need to be realistic with the amount. 10% of your take home pay is a pretty good start, and would compound to a useful amount in the long term.

Debt

Think of your financial situation as a snowball: When in debt you are pushing this huge snowball up hill. As you pay your debt off, and the interest element decreases, your snowball gets smaller, lighter, and less of a burden. You reach the top, and can enjoy the view without the burden. Many people would now borrow more money, and so the snowball rolls back down the hill. Remember: debt is borrowing money from your future self.

But You’re smart, and you are now in a habit of putting money aside, so you keep going. Now it starts rolling down the hill, getting bigger without the need for your input. You keep adding to it, and the power of compounding grows it for you. The bigger it gets, the faster it grows. When it reaches the bottom you are financially independent, and work becomes optional. Now how much pressure and anxiety melts away at that point?!

Lifestyle Inflation 

I’d never thought of this one, written about several times by Mr Money Moustache. We are all prone to it, encouraged by surround-sound marketing and easy credit.

Most of us spend what we earn. We get a pay rise, so we spend a bit more. We have a windfall, which is quickly allocated to a kitchen/car/holiday/wine cellar.

What if, every time we get a pay rise, we increase our savings rate?

Related to the above vice is Hedonic Adaptation (another MMM bugbear). Simply put, we get used to luxury. If you’ve never stayed in a hotel before, a Travelodge seems pretty plush. After a few nights in one, it starts feeling a bit drab. A Premier Inn feels nicer now. But then you get used to that, and it takes Hotel Indigo to get the same reaction your first Travelodge got. You get the picture.

As a petrol head I have the same issue with power. In my 20’s a 112 bhp GTI was enough to keep me smiling. Then you get used to that, and you ‘need’ 150. Then 200, 250…

The result is that you spend a lot more, and only get the same buzz you used to do with less money. I hear drugs work the same, but I’m still on 1000mg of vitamin C. I’ll stick to cars.

What if we could maintain that same enjoyment/gratitude, without always wanting something bigger/better/plusher? We’d save an awful lot of money, retire earlier, be just as happy, and look smugly at those less self-controlled fools in their financed S-Class Mercs. 

Although my current car has 250 bhp, I make a point of only using a stable full of them day to day, then when I do use them, it still puts a smile on my face. I don’t feel the need for a more powerful car.

It’s worth some thought.

Dividend Investing

When selection shares or funds to invest in, most investors lean either towards growth investing; companies which are currently cheap (based on such things as their P/E Price to Earnings ratio), and have a good chance of growing, or dividend investing. In the latter, you focus on companies or funds which pay a high, and historically increasing, dividend. These can be withdrawn as income, for example once you’re retired, or re-invested, thus increasing the compounding effect.

Currently Vanguard’s FTSE100 index tracker pays 4% dividend. That’s many times the interest rate of even the best savings accounts.

If you’ve read this far you probably won’t be surprised to know that I go for a mix of both. Dividends mean you get some financial gain in the short term, whatever happens to the share price in future. I like that.

By having a mix of both, you are ‘hedging’; gaining from future growth and taking a share of current profits. If like me you don’t have faith in the never ending growth of the stock market, you could invest the dividends else where.

Momentum Investing

A technique used by some day traders, gambling that a share price on its way up will continue to go up. I guess that in the short term this tend to be true, but you need to crystallise any gains quickly (by selling), before the tide changes. The requires constant market watching, if you’re in to that sort of thing.

Risk

Risk is an interesting concept, and is at the heart of investing. Everyone has their own appetite for risk, which is part of the ground work financial advisors are obliged to do before providing you with options.

Most people see investing as risky; not least due to headline stories about people losing large amounts in bad investments.

People would of course see money in the bank as not being risky, particularly with the £85k government guarantee introduced after the 2008 crash. But is it risk free? Unless you can get an interest rate above inflation (even if you believe the government’s official inflation figures), you are guaranteed to loose money. You won’t loose it all, but each year, due to inflation, its value deceases more that the interest earned.

You are, in effect, getting poorer.

Diversification

The vast majority if financial and investment advisors will say the it is essential to have a diversified portfolio. This may be having some in property and the rest in the stock market, while holding some cash for emergences. Within stock market investing there is a hugely diversified range of shares and funds available. I have my modest stash spilt between commercial property (REIT), the UK (FTSE 100 and FTSE All share index funds), some US M&P 500 tracker funds, a bit of Emerging Market tracker funds, UK and US bonds, and some actively managed UK funds.

To be fair I’m probably over-diversified. There is a good argument, particularly if you prefer to be hands-off, for just buying a global tracker fund, and if you wish to add a bit of protection in case of a stock market nosedive, which at some point it will, some bonds. There is also an issue with small portfolios such as mine. If you have your dividends automatically reinvested, they is usually a charge for this. This may only be £1, but if the dividends are only a few quid, that eats up a lot.

Having lean this, I have reduced to around half a dozen funds, including highly diverse trackers, and a couple of active funds which pay high dividends.

Not everyone is a fan of diversifying. Warren Buffett, the world’s most successful investor, class it protection against ignorance. However few people can replicate what Warren has done, and he certainly hasn’t achieved it by just reading investment bulletins and checking P/E ratios!

Day Trading

Day trading is a term used for exploiting the second-by-second fluctuations in share prices to make money. There are various methods, with various level of risk and work involved, based on the pattern of the share price over time. Essentially you’re trying to predict when it’s at the bottom and top of a cycle.

The term Day Trading really just separates this type of activity from buy and hold investing. It doesn’t matter whether the shares of the company you are using are undervalued, or produce dividends, or have a long term future. What matters is that they fluctuate by enough to more than cover the trading costs (usually about £25 to buy and sell).

For example, if you invest £1000 in Corp A Ltd, at 110p/share at 10 am, and sell at 2pm when they reach 115p/share, you make £45 profit (1000x£1.10=909 shares, multiplied by the 5p/share increase). Take away the £25 fees and you’re left with £20 profit for not a lot of work.

However… you need to invest a decent amount (£1000+) in order to cover the trading costs, therefore you need a pretty healthy disposable pot.*

And of course they could well go down, in which case if you need to sell, you pay the fees and take a loss on the sale.

You can mitigate some losses by using a Stop/Kill Order, so in this case you could place an instruction (pretty easy on most platforms) to automatically sell at 108p/share. This would limit your losses. You could also place an order to sell if they hit say 120p. In this case you don’t need to watch the price and try to catch it at its peak, but you do potentially lose out on any gains you may have made if it had gone above 120.

Being fairly risk averse I would choose this options, and increase my chance of a modest gain. I’ve never tried day trading, as I haven’t had enough spare capital (you need to be prepared to lose a fair chunk of your capital) to cover the fees.

A HUGE caveat… even based on the literature of some of the trading platforms, around 90% of day traders lose money overall. It’s not simple, and certainly not risk-free. Most people class themselves as about average, and half of those are wrong. Don’t presume you’re part of the 10%.

There are a couple of trading platforms with zero fees now, which is likely to become the norm over time. This makes day trading a less risky process.

If you hold a share dealing account which isn’t part of a Stocks and Shares ISA though (you can only hold one, and it may not be with the best platform for regular trading), you are subject to income tax on any gains.

* Warren Buffett’s rules of investing:

1.       Don’t lose money

2.       Pay attention to Rule 1