Magical Penny

Why Do Not Need an Investment Advisor

by Magical Penny on April 30, 2010

Magical Penny continues with the theme of barriers to investing. Click to read part 1 and part 2.

The world is full of investment opportunities and when you start looking for places to grow your savings, it can quickly get overwhelming.

Not knowing what to do stops many people from making any return on their savings and this ‘decision inertia’ runs the risk of you missing out on huge returns over the course of a lifetime.

Traditionally, there was a solution to the dizzyingly array of investment choice: An investment advisor. A investment advisor can help you to make the best investment choice and make sure you are considering the implications of investing like taxes, risk, and asset allocation.

However, you probably don’t need one.

Here’s 4 and a half reasons why:

1) A Simple Life

An investment advisor can save you thousands of pounds if you have a complex investment portfolio already or have tens of thousands of pounds lying around.

Hands up if you do?

Thought not!

Of course, investment advisors have the potential to provide a great service as they work with money for a living:

They know the tax code
They know the ‘tricks of the trade’
Most importantly they can suggest a good asset allocation (the amount of money you put in each investment) personalised for you: your needs and attitude to risk.

However, as 20 and 30 somethings more of us don’t have or need such a complicated portfolio and can work out our attitude to risk and a good asset allocation from free resources available on the Internet.

If you think that you need an investment advisor it’s likely to be just another barrier in your mind stopping you from making a start.

2) The Information Revolution

As children of the information age, we have more access to information than any other generation, including information about investing and money management. Books are great sources of information but the real breakthrough has been in the explosion of easy to read, free content available online.

In the 21^st century if you have an internet connection it’s incredibly easy to learn about anything, including investing. But where to start?

If you wanted to learn more about investing in an easy to understanding way you can’t go far wrong by having a browse through some popular personal finance blogs. I’ve found them invaluable over the years as they give you new perspectives and snap-shots of what real people are doing today with their money. Click the Wisebread logo to view any of the top personal finance blogs to continue enjoying financial blog goodness:

Top personal finance blogs

Despite the disclaimers on blogs (as we can’t tailor advice to specific circumstances nor do most writers have financial qualifications…yet) there’s still a great deal of information available for all of us to make more informed choices.

3) Investment Advice is mostly expensive or not impartial

If you have a complex or highly specific iinvestment issue, then an investment advisor can be a huge help, but if you are just starting out with investing then using a financial advisor can be unnecessarily expensive, or worse: biased.

Investment advisors can make a living either by a fee you pay directly for their time, or by getting a cut from the companies they get you to invest with (or a combination of the two payment methods). When advisors get paid by investment companies this is known as an affiliate fee or a commission.

The accepted wisdom is you should always choose a ‘fee-based’ advisor because they can be completely honest with you –they will recommend what is best for you because there is no financial incentive to suggest something else. However if you are like most 20 or 30 somethings, you are likely to not have much to invest at this stage, so an advisor fee could cost you several months of investing money that you’ll never see again.

As you can learn so much more about investing (for free online and in books from your library) than at any other point in history, the free content already available really is all you need to get started.

Save your financial advice money for when you have a complex financial issue that needs to be resolved once you’ve built up a few hundred thousand pounds worth of wealth!

4) Take Control -You don’t need a baby sitter for your money

One situation where it is worthwhile to have a financial advisor is when you need someone to baby-sit your money. If you’re nervous about investing you may feel comforted to know that an ‘expert’ looking out for you and can hold your hand through the process.

However, this should not be you!

Investing isn’t as daunting as you may think and whilst having a baby-sitter might stop you panicking, you should realise that the cost can be enormous. When you first start investing you may feel a little scared –naturally heading out into the unknown isn’t easy, but I assure you that you will quickly feel empowered that you are taking the future into your own hands and beginning a journey to grow your pennies. And such a journey will have a profound effect on the choices available to you for the rest of your life.

And finally:

The easiest way to get prepared and learn about investing is of course to simply keep reading Magical Penny.

I’ve been reading books, blogs and research papers on the subject for over four years and actually investing for almost three so I’ve been through the process and started the blog for this very reason: to empower people to begin investing, cheaply and simply, and most importantly on their own terms.

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Learn more about investing and money management with these great money carnivals (and featuring Magical Penny this week)

Carnival of Personal Finance

Festival of Frugality

Festival of Stocks

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What’s the Best Investing Style for Me?

by Magical Penny on April 28, 2010

Monday’s post outlined reasons for not investing and why you should overcome them. Most people have a certain view on investing based on the they perceive ‘investors’ to be and how they act.

What’s your perception of stock market investing? Do you think of the shouting traders of the New York Stock exchange shouting “Buy Buy Sell Sell”?

Do you think it’s all about lots of charts and numbers flashing across a ticker tape screen? If you are thinking this then you’re likely thinking about “Day trading”.

The Day Trading ‘Gambler’

Day-traders spend their time buying and selling shares for profit (or at a loss if it doesn’t work out) –often in the same day, hence their name. They make money by taking calculated risks on the direction of the price of a certain stock, currency or commodity (commodities are real materials like iron, gold, and even foods like sugar and chocolate).

As prices tend to be volatile they can ‘buy low and sell high’ –if they do it right. But doing it right consistently is very hard, and very high risk: You can earn you thousands in minutes, but equally you can lose it all too. Rather than ‘investing’ it’s really ‘speculating’ (educated guessing) and the practice must certainly make the term ‘investing’ seem taboo and in many ways day-trading can be compared with gambling at a casino.

The Committed Investor

Another perception of investing is that it involves lots of reading and calculations. You may think investors all read the Financial Times and spend their free-time looking at company balance sheets and annual reports.

And some do!

The philosophy of this type of investor could be called: “Buy and Homework” –the investor buys shares of companies that they have thoroughly researched and then keep up-to-date with how the company is doing, hoping to glean any information that might tell them when to sell and when to buy more shares.

The “Buy and Homework” approach can be a very profitable strategy. In fact the richest man in the world, Warren Buffett, does exactly this. In contrast to the day trader, Warren has famously said:

“Only buy something that you’d be perfectly happy to hold if the market shut down for 10 years.”

It may well be profitable when done right but the research involved takes a lot of time and it doesn’t always yield results. If you enjoy the process it can be a fun, intellectually stimulating and profitable hobby or career but from the outside it can seem dull and boring. And if you’re finding it a chore you’re unlikely to grow your pennies with this method.

Buy and Hold

‘Buy and Hold’ means exactly that. You buy investments and hold them over the long term. You don’t need to care about the daily ups and downs. Instead you hold onto your investments with the assumption that, as shares in profitable businesses, the value of them will go up over time. The strategy has been under attack in recent months but over the long term ‘buy and hold’ has allowed people to grow their pennies considerably with many studies demonstrating that it beats the performance of many committed investors (who can make mistakes or get greedy), whilst avoiding having to make frequent and costly trades, or reading company reports.

Boring and effective? It certainly is a strategy worth exploring.

Magical Penny is updated 3 times a week: Monday, Wednesday and Friday.

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The Taboo of Investing in the Stock Market

by Magical Penny on April 26, 2010

There’s a taboo attitude towards investing

It is particularly prevelant in the UK and it’s certainly there amongst my friends. For example, most would feel more comfortable buying a house worth more than they will earn in 10 years, than putting any money in the stock market. You may be able to see your investment right in front of you with a house but if you are not investing in equities (i.e. stock and shares where you buy part of the company and therefore get ‘equity’) you are missing out on a great way to grow your pennies over the long term.

Here are 4 reasons why people don’t invest and why you should:

1) I don’t have enough money

Quite simply most 20 some-things (and even older) never get around to saving let alone using savings to invest. Over the last few weeks Magical Penny has explored this subject in depth so hopefully you should be well on your way to being in control of your money rather than allowing money control what you do. (New readers click here and here)

2) I have other priorities for my money

Once you have passed the stage of not saving at all you’ll realise that having savings gives you lots more options.

It’s great.

But it brings with it more questions:

Do you spend your savings on a better car?
Do you pour it into a house?
A business?
Or do you save it and not touch it?

Finding the right balance is personal to you but if you knew the impact of what a few pennies can grow into over the long term, I’m sure you’d reconsider spending as much on the things you want today. You would appreciate that today’s choices could cost you vast sums of tomorrow’s pennies.

Even if you decide to spend most of your savings on other things, perhaps starting a business or buying a house, investing is still a great thing for you to do because it offers diversification –by spreading your money around you help lower your risk: You are less likely to lose it all whilst giving your pennies the best possible chance to grow.

Spreading your money around a few different goals means you will have less money going towards each goal but thankfully that’s not a problem…

3) You don’t need huge savings to invest

When I first started reading about investing I imagined it was the reserve of the rich. I imagined trades involving thousands of pounds moving in and out of the next hot stock. This still does happen but there have been considerable advances in the financial markets in recent years that have made it far easier for everyone to invest: you don’t need huge piles of cash to invest in the stock market.

If you take away anything about investing from this article I hope it’s this:

You can begin investing with zero transaction costs and zero fees for as little as £50 a month.

(The no-fee part is important as of course you could buy shares in individual companies for a few pennies each but you pay a huge amount in fees by doing this)

If you’re completely new to investing the first thing you’ll notice is the industry is full of fees. Stock brokers and investment bankers need to afford their sports cars and tailored suits somehow!

However, there are investments you can make that have minimal fees and allow you to start investing without a huge pile of cash. Championing this type of investing is the core message of Magical Penny so naturally you’ll be reading how to do this in up-coming posts on the blog.

4) Investing is scary and overwhelming

Much of the taboo about stock investing is because the investment world is unknown to most of us. And the unknown can be scary. However, stock market investing is worth learning about – and the basics are not as complex as you may think either.

Investing in equities simply means you become a fractional owner of the businesses of the world. There are good businesses and bad businesses but collectively they create value each and every day as people wake up, head to work and make their contribution to the planet.

The value of those businesses goes up and down all the time as the world is never the same place from one moment to the next. But over the long term people recognise value and pay accordingly for it. Investing gives you a chance to be part of the value-creation system, and therefore tends to lead to increasingly growing pennies over the years.

As a side-note, some people think the stock market is simply a money making machine. In some ways it is but it’s not magical: the money the companies get from selling shares to investors is used for business development and growth; helping them develop efficiencies in production. Businesses can therefore grow by selling shares and they give you a chance to take advantage of that growth. Make sense?

Ultimately if you think investing is overwhelming though, you’re right.

Like all unknowns: it can be.

But if you keep reading Magical Penny, it might just become a little less overwhelming and a little less taboo.

I’m happy to answer any questions in the comments too so thanks for stopping by.

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Tracking your Net worth

by Magical Penny on April 23, 2010

If you’ve been following any of the Magical Penny’s advice you should hopefully have managed to save some of your pennies in recent weeks. If not, don’t worry: review your spending plan (you have one right?) and begin one simple step:

Are your pennies really growing?

How do you know if you’re moving in the right direction with your finances? You could be moving money into savings accounts occasionally but does it stay there or does it get spent? Do you find yourself moving money around rather than leaving it alone?

When I started automating my savings, setting up a standing order to send money regularly into a savings account, I thought I was doing well.

And in many ways I was: automation takes the will-power out of saving.

However automation doesn’t stop you from raiding your savings when something expensive comes along!

Spending part of your short-term savings is fine -it’s what an instant access account is for-but it can be all too easy to spend any other savings you have. There is a way however to alert you if this begins to happen:

You need to track your net worth

Your ‘net worth’ is a personal finance term for the sum of your assets (things with a positive value like your savings) minus any liabilities (things with a negative value like credit card debt or a loan). Calculating your net worth is a really useful way of understanding your total financial situation.

Whilst there is much debate on what to include and what not to include in your ‘net worth’, the actual number isn’t that important (at least at this stage for those of us in our 20s and 30s). The important thing is how the number changes over time as it gives you an idea of of whether you’re moving in the right direction with your growing pennies.

Consistency

Don’t underestimate the power of keeping a regular log of your net worth. Don’t worry about what to include or what not to include at this stage. Just make your list to include what seems right for you: perhaps your net-worth would include simply the total of the balances of your current account and a savings account and then taking that away from your credit card balance. Whatever you choose make sure you keep it consistent over time.

You need to make sure you do the calculation at the same time each month as any income payments and out-going bills can drastically change your net-worth in the short-term. Personally I do it on the last day of each month: I add up the total of all my accounts and I’m left with a number. If you had debt you would take your debt away from this number to calculate your number.

Note: personally I don’t include my student loan debt (my only debt) in this calculation: not because I am in denial about the debt, but because the balance is only updated by the Student Loans Company once a year rather than each month when I pay it off so the balance would not accurately reflect my true debt level.

If you find the idea of checking all your accounts every month a bit overwhelming then you can do it quarterly or half-yearly. However, if you wait too long between checking your net-worth you may find that you have not made any progress in several months and were not aware you needed to change your spending and saving habits to reach your goals.

Ignore the noise

Financial ‘noise’ is all the volatile fluctuation of values and figures in your bank accounts and investment valuations. If you are self-employed your net worth number is likely to be very inconsistent day to day but even those with a monthly salary will have a fluctuating net worth as income enters your bank accounts and money goes out when bills are paid.

Your account balances can fluctuate even more if you hold investments as the price of your stocks and shares go up and down almost constantly when the markets are open. These fluctuations however are not meaningful (unless you are selling at the immediate moment) so should be ignored on a day-to day basis. Once a month is fine to view your net worth number to determine the trend to see if you’re on-track to meet your savings goals.

Be Honest

“Whatever happens to your number month to month, you need to be honest with yourself”

When you look at your net worth each month the numbers won’t lie. If you have been spending your suposed savings the number will be lower. If you have been truly saving, the number should be higher. Whatever happens to your number month to month, you need to be honest with yourself. If your number was lower this month, was there a good reason? Had you gone on holiday or perhaps simply had an expensive month with lots of birthdays for example? And if your net worth had gone up was this the result of real saving?

I may write a blog about personal finances but I’m not perfect. Doing this exercise myself each month has helped me realise that I’ve been off-track for some months recently. For example, my net worth has been going up for the past few months but some months have only been higher because of some recent investment returns. By calculating what my net worth number would be if my investments hadn’t gone up I could see that I had not saved my target figure in real terms. This gave me the perspective I needed to ensure I fixed this in the following months.

The great thing about this journey is that each month we have a chance to start afresh: to decide which direction we will take with our net worth. Willpower however works best when accompanied by short, medium and long-term goals. These can be invaluable at keeping up motivation and forcing us to be honest about our financial priorities.

A genuine chart of my 'net worth' (and a stretch target) over the last year

Net worth is not Self-worth

Finally it’s important to remember: your net worth does not define you.

Whilst growing your pennies is a worthy goal that will give you flexibility and freedom in the years to come, it’s important that you do not define yourself by how much money you have at any given time. It can be fun watching your magical pennies grow but remember a high ‘net worth’ is not an end in itself.

If you’re not writing down your net worth every month you will find it difficult to know if you are making consistant financial process. Once you do then it’s a simple as being consistant and checking if your net worth is moving in the right direction. Be honest with yourself about your spending and you will, in time, catch the thermals of wealth.

In other news

The Magical Penny Facebook page now has a new ‘Welcome’ tab so be sure to join the fun @Facebook

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“It Starts When You Save”

by Magical Penny on April 21, 2010

And now for something a little different…

I have a confession.

I write poetry.

I love playing with the structure of language.
I love how in poetry often less is more.
And I love things that rhyme. Who doesn’t?

The last few posts on Magical Penny have caused quite a stir in the comments (read them here and here). I’ve loved the debate and heard some new perspectives. Sometimes though, it’s worth looking above the minutia that comes with financial decisions and priorities and instead take time to reflect.

And what better way to reflect than to read some financial inspired sonnets?!

I challenge you to find poetry any elsewhere in the financial blogosphere. Well…apart from this!

Beginnings

There really is no time like now, today.

To do what you ask? Just read this right through:

An introduction of sorts and my way

To present my manifesto to you.

Let’s make small steps on a journey to learn

Knowledge that won’t cost you a monthly fee

I hope to inspire you to plan and yearn

For change in your life, To be happy, free.

Magical Penny entering the blogosphere

Yes, another finance site’s what you need.

Its UK based message will soon be clear

In fact it’s the personal finance creed

Freedom? Contentment? Options that you crave?

It starts right now. It starts when you SAVE.

The Road Ahead

It’s time now: your money plan to compose

So listen to my financial insight.

This is the sonnet, condensed from my prose

Follow it and your prospects will be bright.

Start with your dream: and think for a few hours.

Then write a plan to stay on track daily

Saving pennies with compounding powers

To go from small wealth and grow it slowly

Over time: more magic pennies each day!

Investing should not be a mystery.

Start today and your cash foundations lay

Learn of investing and the history.

Happiness and spending should be disjoint,

But don’t save too much: or you’ve missed the point.

Post Script

Poetry fans will be pleased to hear the sonnets above conform to the rhyme scheme of a Shakespearean sonnet: a-b-a-b, c-d-c-d, e-f-e-f, g-g; the last two lines are a rhyming couplet. Back to normal programming on Friday 🙂

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The UK Loves Their Houses…but Should We?

by Magical Penny on April 19, 2010

Last week’s post exploring a house as a asset caused an interesting stir in the comments and I thought it definitely worth-while exploring it further as I make the case to find space in your budget for investing before showing you how to actually do it!

We all have only so much money to spend each month. Food, utilities, shelter and a host of other expenses all come out of accounts and sometimes it’s a balancing act to afford everything we need and want. So when it comes to growing your pennies the first challenge to having enough to live the life you want to lead and have any left for the future. One big monthly expense that can make or break your financial life is your housing. Naturally then, it’s a topic worth exploring if you are to successfully grow your pennies in the best way that works for you.

‘Real Estate’: Britain Vs US

‘Real Estate’ is an America term for housing property and land. And in the UK we have less of it than larger countries like the US. As Britain is a tiny island and a growing population our land therefore comes at a premium. When it comes to Real Estate this means that most US houses are cheaper per square metre, but also are larger than most British houses – although this is not hard as, according to the government’s adviser on architecture, Britain has the smallest newest built houses in Europe. Therefore for a comparable home UK houses are generally more expensive than in America.

The rush to being ‘priced out’

I make reference to this because with more expensive housing already and house prices in the UK growing considerably over the last few decades it’s a wide-spread belief certainly amongst my friends that you should get on the housing ladder as soon as possible to avoid being ‘priced out’ of the market.

“We surely must buy now before house prices rise further and become truly unaffordable”

This rush to buy has lead to some interesting demographic patterns as explored by a study by the Institute for Fiscal Studies in University College, London:

“As a proportion of their total wealth, British households hold relatively small amounts of financial assets – including equities in stock – compared to American households. In contrast, British households appear to move into home ownership at relatively young ages and a large fraction of their household wealth is concentrated in housing. Finally, the age gradient in home equity appears to be much steeper in the UK while US households exhibit a steeper age gradient in stock equity.”

You can read the full study here

A Cultural Difference?

This conclusion certainly seems to be case amongst my peers. As I prepare to enter my mid 20s more and more of my friends are moving towards home-ownership yet I don’t know a single one of my peers who own any stocks or shares (but I can’t wait to inform with Magical Penny!) In contrast, Americans begin to invest earlier and in greater number, and it is generally before progressing to home ownership. The study reveals a telling statistic:

“British households hold 62% of their total household wealth as home equity: the comparable percent for American households is only 34%.” Page 7

This is partly because British houses are more expensive but I suspect too that the culture of investing in equities (stocks and shares) is much bigger in America than in Britain. By investing in stocks and shares a larger proportion of the US population are putting their money into value-creating businesses of the biggest economy of the world, thus, over the long-term they are accumulating market returns, growing their pennies into surprisingly large sums.

Britons meanwhile have almost 2/3 of the wealth in property, which, while having the ability to grow in value, also has added costs and fees like maintenance, repair and stamp duty (the tax paid every time a house is purchased).

The Right Priorities?

The study found that:

“for almost all of the younger age-income groups UK households have at least as much wealth, if not slightly more, than their US counterparts…[yet looking across the full population] the top fifth of American households have considerably more financial wealth than the top fifth of British households do [?] page 8.

Why do British and American age-income groups start out equal but then begin to divide? Is it because the Americans have more likely invested their money into value-creating businesses rather than property?

To be frank, I can’t be sure as there’s many factors involved. But I do think more of us should be directing own pennies to build different asset classes (types of investment) rather than focusing so much on purchasing a house.

What this mean if you want to grow your pennies?

In real terms for me this means saving less aggressively for a house deposit (although I still am) by directing part of my ‘savings’ pennies into stock market investments for my long-term future. We all have only so much money to spend each month but balancing your budget to include a monthly contribution towards ‘investing’ is absolutely a ‘need’ if you truly do want to grow your pennies over the long-term (and Magical Penny will be here to show you how).

What you do you think?

Before you comment I want to remind you that this article is not saying property is a bad investment – like any investment it can be both good and bad -but that the view that property should be your first financial priority should not simply be accepted: It may be the ‘default view’ of many people when they begin their adult lives but have you really considered your options?

Essential reading:

Ramit cuts through the myths that buying a houses is always a good thing to do. You can even his chapter on the subject from his book for free too: Buying a House
Is “What Works For You” really working? @Magical Penny
Your Home is not an Investment@Magical Penny

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Emergency Post -Reassessing Spending Choices: Is what works for you really working?

by Magical Penny on April 16, 2010

I had planned on continuing with the ‘Introduction to Investing series here at Magical Penny but given some recent comments on the blog I’ve been prompted to intervene current programming with an important announcement.

Money is a complicated topic.

How you make it.
How you spend it.
How you save it.

Money is simply an invention to store value and because naturally everyone values their time and materials differently, views on money and value are of course different too.

Each day we make hundreds of choices, many of which have financial implications. We approach each choice with the sum of our past experience and quickly calculate if the options provide us with enough value for our efforts. We live each day the best we can using the sum of knowledge each of us have gained from our days on the planet.

Money is of course only a means: don’t put off life for money

My mission with Magical Penny is to raise your consciousness when it comes to money. It is not to encourage people to avoid spending money or to ‘delay life’, but rather to encourage people to spend money deliberately and with thought.

Do what works for you…

When it comes to reading financial advice we will all come from different perspectives and have different experiences. Some ideas may seem alien to you, or inapplicable to your situation. For example, my recent post on the pit-falls with considering housing as an investment may have seemed to challenge the decisions of someone in a different life-stage who feels owning a house is best for them. But equally another reader may read the article and then re-evaluated their situation and come to the same conclusion that I did: that owning a house in my particular life-stage is not the best thing to do, and that people should not buy a house simply because it’s supposed to be a ‘good investment’. There will always be countless strategies and ‘tips’ to help you grow your pennies but you always have to do what works for you.

Make sure your plan really is working.

That said, there is a danger however of doing “what works for you” –it’s very easy to rationalise your spending patterns by convincing yourself that it ‘works for you’. Examples could be:

“I should spend money on this because it makes me happy”

“I should buy a house because I’m raising a family”

“I need a new car because I value reliability so much”

“I don’t need to worry about the little things because I concentrate on the big wins”

“Living in squalor now is worth it because of the long terms gains I’ll achieve if I save”

These are all totally valid reasons to justify spending patterns and lifestyle choices. But are they still really valid for you now? Have a think about what you do and don’t spend money on at the moment. Have your values changed?

Sometimes reading different perspectives on money and spending can challenge you to think beyond your own life experiences to better assess the value of a purchase or lifestyle choice. If you have found any Magical Penny article completely off-base as some commenters may have done (*cough* Rightly Knightly *Cough*), then I hope you continue reading articles that challenge you and give you a renewed sense of from where you derive value.

At this point I’m reminded of a Get Rich Slowly article a couple of months ago about the 3 different types of knowledge:

What you know
What you know you don’t know
What you don’t know you don’t know.

My wish for Magical Penny is to contribute to topics that fit into all 3 of these categories for you the reader:

Firstly to challenge you to think about what you already know; to perhaps make you reassess your lifestyle and goals; and secondly to share information with you about topics you may not know much about but would like to, for example how to grow your pennies through investing.

But ultimately I hope at one point you come across an idea or a concept that you didn’t even know that you didn’t know. And it might just make money that little bit less complicated.

Extended reading

While on the subject of learning new things every day below are two brilliant lists of learnings that I’ve come across in the past couple of days. Well worth a read:

101-life-lessons @Ridiculouslyextraordinary

26-life-lessons @ManVsDebt

Want to make me write another emergency post? Leave a comment to make me reassess my own spending, lifestyle and goals! 🙂

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Your Home is Not an Investment

by Magical Penny on April 14, 2010

…to be more specific, you shouldn’t consider your primary residence, the house you live in, as part of your long-term wealth and investments. This article will explain why:

For many of us in our 20s and 30s buying a house is a big goal that’s either staring us in the face or coming up on the horizon. A house is likely to be the biggest purchase we will make in our lives and it’s a likely trigger for beginning to think about saving money and growing pennies.

However, whilst saving for a house deposit is an admirable goal it shouldn’t stop you from begin investing for even longer-term savings goals like retirement. It’s not OK to just be saving for a house. Here’s why saving for a house isn’t enough:

Renting from the bank

You may be tempted to rush into buying a home because ‘it’s an investment’ and you want to avoid ‘throwing money away in rent’ (phrases I’ve heard my friends and people online say all the time). Yet paying for a roof over your head is largely unavoidable: even if you own your own home: in the early years of a mortgage only a fraction of the monthly payment is going towards to the ‘principle’ (the money you owe on the house). Most of your money is going towards the interest your mortgage provider is charging you each month. You are essentially renting so the amount of money you’re contributing to any ‘long term’ investment like a house is very small. You should therefore be making provisions for more meaningful long term investment plans while you are still young.

A lifestyle investment

Most people consider a house to be an investment: certainly it is worth a certain value in the market-place and tends to increase in value over time. However, assuming it’s the house you are living in, then it’s value is limited because you need a place to live: It offers you shelter and depending on the size and quality of its features it also provides you with a certain lifestyle. Rather than an ‘real’ investment it is what I call a ‘lifestyle investment’. As explained when exploring lifestyle inflation, with any lifestyle investment it comes the ‘norm’ for you. Regardless of any appreciation of house prices you are unlikely to want to down-trade in house due to lifestyle inflation so the relative investment return for your house is 0%!

Real investing is about reducing today’s lifestyle to put your money to work for a secure financial future tomorrow. Pouring money into your primary residence may give you a secure place to live in the future but this alone will not help you grow your pennies long-term. You need other investments in place as you commit to your future today and the sooner you start, the better.

Playing with leverage

Leverage in financial terms is taking advantage of movements in value using extra money. For example if you were playing roulette and only had a £1 but had a strong feeling that the ball was about to land on red, you could leverage your prediction by asking me if you borrow £9 to put on Red. If the ball did land on Red you could return my £9 to me and you could keep your winnings: the £1 from your own bet and the £9 winnings from my money! You just made an extra £9 even though you only had £1.

Leverage is what makes property so appealing. You may only have £10k but if you then borrow £90k on a mortgage you can ‘afford’ a £100k house. If that house then goes up 10% in a year and you decide to sell you’ll have a £10k profit –add that to your original £10k and you’ve doubled your money!

However leverage can work the other way. If the ball had landed on Black in the roulette example you would owe me my £9 even though you only had £1 to bet with and you’ve lost that too! With houses if the value goes down even a small amount you can find yourself ‘upside down’ –owning more money that you ever put into the house. You would be trapped in the house until you could sell it and pay off the rest of the mortgage that the house sale couldn’t cover. If you needed to sell and house prices dropped 10% in that year you’d be in trouble: trying to pay off an extra £10k debt can wreak habit with your mission to grow your pennies!

Poor flexibility

For those of us in our 20s who have not settled into our careers or a particular location, a house, (or rather the leveraging mortgage) is not an investment but rather it’s a dangerous liability (debt) that’s not worth the trouble: that is until you have saved a big enough house deposit to not worry about being ‘upside-down’ should you need to move after your house has lost value.
Houses are also one of the most expensive and inflexible ‘investments’ as anyone who has tried to sell a house will be able to tell you! Unlike other investments like shares that can be sold in batches and almost instantaneously on the open market if you need to sell quickly, a house is pretty hard to sell brick by brick!

**Buy and Invest!**

Ultimately anyone who is actively working towards saving for a home is doing a great job as they must certainly have a great mind-set and vision for what they want in their future. This is great and they get the Magical Penny Thumbs Up!

However, buying a home is not automatically a good move, especially if it comes at the expense of being prepared to save separately for the long-term. Inflating your lifestyle by buying a home can be a great move at improving your quality of life but don’t think that investing in a home is simply enough to secure a comfortable financial life in the future.

Thankfully you don’t have to choose between saving for the long term and for a home (or dutifully paying on a mortgage). You can do both –even if you can only afford a small amount to channel into long term savings, the likely returns will help your pennies grow over the long-term and will prepare you for another one of the biggest purchase you’ll ever likely to make: buying your financial freedom!

What do you think?

This article refers to the problems with considering your primary residence as an investment. The subject of investing in property as a investment asset class (as discussed in some brilliant and recent comments) is a different issue and will be covered here on Magical Penny soon.

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Why You Should Be Investing

by Magical Penny on April 12, 2010

Saving money in a ISA is great at helping you counter-act inflation as you to keep more of your interest, but Cash ISAs are not going to help you grow your pennies over the long term. For that you need to be investing.

no time like the present You may be in your 20s and money’s tight, or in your 30s and 40s and have lots of financial commitments. Regardless of your situation, you should be investing (and not just the minimum in a company pension scheme if you’re lucky enough to have one).

If you’re not already investing and don’t start soon you could miss out of tens if not hundreds of thousands of pounds over the course of a lifetime.

If you’re reading this in your 20s I’m especially excited you’re here reading this because time is on your side.

Investing is daunting

Unfortunately, unlike in America where it appears stock market investing is ‘sexy’ and cool’, us Brits are traditionally a bit more reserved about investing in stocks and shares.

Talking with my friends about the subject most think investing is something that only rich people do; that it’s complicated and risky; or it’s something they’ll get around to but it’s too hard right now.

There’re wrong though.

They should be investing something now, even when other financial priorities seem more pressing. Even if it’s a deliberate decision that may be right for them, I doubt they fully appreciate the true cost of their priorities. I undertand their reservations though so let me elaborate with 4 reasons why you should be making steps to grow your pennies and begin investing.

1. Long Term Return

When you buy shares you are buying tiny pieces of companies: Companies sell part of their organisation as shares to investors to gain more funds to grow and develop. Investors buy these shares with the hope that the business is profitable and pays out company profits back to them. These payments to shareholders are known as dividends. As well as the dividend money, investors also hope the shares they have bought go up in value as demand for company shares grows, assuming the company is profitable and has strong future potential.

Of course there are good and bad companies but collectively over the long term history has shows that the returns (increase in value over the course of a set time period) from businesses have consistently outperformed most other asset classes (an investment term for types of things you can invest your hard-earned pennies in: i.e gold, cash, shares, or even commodities like sugar). The difference in returns between shares and say, a Cash ISA, may seem small over the course of a year but longer term the difference becomes thousands of pounds.

Why Investing is Important

Whilst the rate of return is not important when it comes to cash savings (click here for the article) the return of an long term investment is important as it determines when you can retire or reach any other goal that requires plenty of pennies. Ultimately it is investing in shares that gives you one of the best chances to enjoy the best return over the long term. And arguably the long term investment return is more important than in the past as people are living longer than ever:

Will you be able to afford 20-30 years of not working when you retire?

Even if you saved double the amount in a Cash ISA compared with someone who invested their savings in shares, you are unlikely to end up with anywhere near the amount you are likely to achieve by investing in stocks and shares. There’s only so much you can save so investment returns have the potential to help considerably.

Important Note: Investing in shares is more ‘risky’ than cash because the value may fluctuate over time but with the right strategies and investing philosophy it doesn’t have to feel or be anything like gambling with your future. This is an article in itself and will be addressed in another post.

2. Time on your side

It’s not only about the asset class but the time you give your pennies to grow. The difference between investing now and investing later is huge. Ramit Sethi gives a good example in his book: I Will Teach You to be Rich: No Guilt, No Excuses – Just a 6-week Programme That Works (which, as my favourite personal finance book you should buy by the way), when he tells the story of Smart Sally and Dumb Dan:

“Smart Sally starts saving at 25, by putting money into a low- cost investment account. She decides to do that until she’s 35, then she stops. So she invests for 10 years. Dumb Dan doesn’t get around to it until he’s 35. He invests for 30 years, until he’s 65. And when they both retire, because of compound interest … (Smart Sally) has about £100,000 more.”

In this story Sally saves less and ends up with more simply because she started earlier. This is possible because the interest she earned early on began earning interest too. Magical pennies indeed!

3. Information Super-Highway

The internet’s great isn’t it?! Getting started in investing has never been easier than today. The preconception that investing is only for the rich may have been true a few years ago but now the barriers to investing are much lower than at any other time and anyone with an internet connection has a chance to learn. My parents would have had to visit a broker with a large cheque if they had wanted to do what I’m doing when they were my age. Instead, you can now automate small amounts directly into investments around the world with a few clicks of a mouse if you know what you’re doing.

That said, in my journey to learn about investing I found lots of mis-information and confusing things on the internet but that’s fixed now because Magical Penny is here!

In all seriousness there are some great resources online that I’ll be reviewing in up-coming posts. In the mean time, do some internet searches yourself and let me know in the comments if you come across any great finds.

4. Thinking Beyond Today

Finally, the best reason to invest is that it encourages you to think beyond today. It’s too easy to only be concerned with what’s right in front of you in life, rather than having goals on the horizon. By saving long-term you really do get a sense of empowerment that you are taking control and can reach some ambitious goals.

Magical Penny is only just beginning to talk about investing but is there anything you’d like to know or have questions about that you want answering right away? Leave me a message in the comments 🙂

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A Chance Encounter -How I Became Interested in Personal Finance

by Magical Penny on April 9, 2010

Magical Penny has set the ground-work for growing your pennies: covering debt, saving and focus, amongst other topics. Starting on Monday Magical Penny will begin Investing 101 but to finish the week I thought it would be worth sharing how a chance encounter with the subject led me to first begin growing my pennies.

One thing that fascinated me as a history student was discovering how so much of our history was dictated by chance: particularly how different the world could have been if a seemingly insignificant event hadn’t occurred.

Chance, of course, continues to play a huge part in all of our lives: perhaps for you it was a chance meeting that lead to a life-long relationship. Or a job advert catching your eye whilst flicking through a paper leading to your eventual career. For me, one chance thing that I hope will change my life, and yours by reading this, was my discovery of the world of personal finance.

A Whole New World

Many people think that personal finance is not relevant to them: perhaps they think personal finance is about either being a miser living on a few pennies a day or a hot-shot speculator gambling everything you’ve got in the markets. Both views are based partly on reality but there is a middle-ground. For me, personal finance blogs opened my eyes to this middle ground and were great resources for demystifying personal finance (Reading stuffy investment prospectuses and finance books came much later!)

Money Money Money

The personal finance blogosphere to the uninitiated might at first seem filled to bursting with self-indulgent rants by people obsessed with growing their net worth. New readers might ask “Haven’t people got better things to do than sit counting their money?”. But there’s much more to it than that: personal finance blogs have exploded online and their value is through offering new perspectives and insight about everyday problems and goals.

There certainly are some characters writing personal finance blogs and I’ve certainly read my share of extreme stories detailing astronomical debts or outlandish stock market gains. The best and most successful blogs however are written by people who, after wracking up huge credit card debts, experience a money epiphany of religious intensity, before turning their life around (The Simple Dollar , Get Rich Slowly and Five Pence Piece come to mind)

As a student reading such stories in modest student accommodation in England, without a credit card or a stock market account, and not knowing anyone personally who actually had such a thing, I found these accounts of crazy spending and financial reconciliation utterly fascinating.

Naturally I compared their stories to my limited experiences. I didn’t have a story to tell. I had never been particularly reckless with money: I saved semi-regularly and never exceeded my interest-free overdraft at university. I had not ever found myself in a ‘make or break’ position that most personal finance bloggers profess to have been in. But one idea did stick with me as I read through the dramas of ‘financial armageddon’: the power of now: these faceless formerly financially irresponsible American 30 somethings were telling me that if I started on a meaningful financial journey early I could reap the rewards in the future, particularly as I was only just entering my 20s. The faceless 30 something Americans had spoken. And I listened.

And I had the best thing going for me: youth.

I had never seriously thought about personal finance or investing until that chance encounter on a personal finance blog and whilst I doubt I would have found myself in mountains of debt, I’m glad to have discovered the subject when I did. It was arguably the perfect time: as a young adult preparing to enter the working world. The chance discovery of personal finance blogs raised my consciousness and made me determined not to drift financially in these early years when financial habits are only just beginning to form.

First You Make the Habit, Then the Habit Makes You

Saving money is one of those things that everyone knows they should be doing but for many, is something that they never get around to. Or perhaps they do but only when *something* happens, perhaps a significant life event that makes them think about what they want their future to look like and they realise they need to make meaningful steps to get there. For me it wasn’t a specific event but rather it was seeing a graph (yes I know how cool that makes me sound) showing how over time your savings can grow much faster than your contributions if you put your pennies to work.

First Steps

So personal finance reading helped me appreciate the power of time. But it’s doing something with that knowledge that ultimately will have an impact. When it came to learning about investing the resources on the Internet were helpful to an extent but then came the hard part: Most of the advice on investing was very US-centric so I had to adapt the strategies to what was available in the UK. Thankfully over the next 3-4 years I found the best ways to grow my pennies with the resources and services available in the UK. I finally had a story to tell! Magical Penny was born.

So much of history is determined by chance: perhaps you stumbled on this post today by chance, like I did on a similar post 4 years ago. If so don’t miss out as Magical Penny begins detailing how to invest your money, starting next Monday.

Make your own history by starting to save today because those history lessons didn’t just teach me about chance: Alas you can’t just hope your way to financial success. History taught me that it’s not chance but rather it is planning and focus that has the biggest impact of all.

Have you ever come across something completely by chance that led you down a completely different path in life? Let me know in the comments!

In Other News

Magical Penny is proud to launch a new facebook campaign: Aleksandr the Meerkat for Prime Minister!

The Facebook fan page points to a Magical Penny information page, inspired by the UK elections announced for 6th May 2010, to encourage you to take financial responsibility and put it in your own hands-why rely on politicians when you can be proactive yourself to get money in your pocket today?

<If you are in the market for renewing car insurance or home insurance then using a price comparison site to get a number of quotes can save you substantial sums.

As well as encouraging you to get a quote, (Magical Penny is all about you being proactive with your finances), you will also be supporting Magical Penny as I will get a few pennies for every completed quote so thank you in advance.

You don’t even have to take out the insurance itself. Just get a quote using the links on this info page.