Many of us dream of one day being able to achieve financial independence, quit the rat race and retire to live off our investments.
This might seem like a distant, unrealistic dream at first, but if you follow just a few key rules you’ll quickly be able to build up the resources necessary to put you well on the way to achieving this aim.
A disciplined approach
In practice, it’s actually very easy to achieve financial independence but it requires discipline and a long term focus, something many investors fail to realise.
The first stage is to make sure that you’re spending less than you earn, and saving a little every month. Saving is the key to being able to retire early. No matter how much you manage to put away, as long as you’re not racking up debt you’re heading in the right direction.
How much you save depends on your personal situation and savings goals. If you can’t afford too much, don’t set your goals too high in the first place as this will make it harder and more likely that you will abandon your targets.
Start investing
Once you’ve got a steady savings plan in place, the next step is to invest your money to achieve the best returns. If you’re just starting out on this journey, it might be best to begin with a low cost, basic index tracker fund as this gives you the most diversification and instant portfolio for the lowest possible price. For example, the HSBC FTSE 250 Index tracker gives you an instant portfolio of the 250 largest companies in the UK and only cost 0.18% per annum.
Over the past 10 years, an investment in the FTSE 250 has produced a total return of around 10% per annum, which is enough to turn just £100 a month into £21,000.
Don’t lose money
When you are saving money and investing it at a steady rate, the next step is to make sure you don’t lose money. Warren Buffett, one of the richest people in the world and widely considered to be the world’s greatest investor, is famous for saying: “Rule No. 1: Never lose money. Rule No. 2: Never forget rule No. 1.”
These are two rules every investor should certainly follow. As long as you are saving money, and achieving a steady rate of return, you’ll be able to generate wealth over time. However, if you try and rush wealth creation by investing in risky, loss-making products, you could set yourself back significantly.
You should avoid this at all costs. In the example above, if you saved for 10 years and earned £21,000 and then experienced a 40% loss, it would set you back three years of saving. However, if you’d kept your money invested, over the 13 years it would take you to save, lose 40%, and return to the starting point, your savings pot would have grown to £32,000, meaning that you’d be £11,000 better off.