Growth assets, as the name suggests, are the ones that will actually grow your wealth over time according to the magic of compounding returns, which we’ll explain in detail soon.
This is the sharp end of investing. In order to reach Financial Freedom Levels 3 (could work part time) or 4 (could cease working altogether), even if just for retirement in old age without depending on a precarious government pension, you will need to hold plenty of growth assets over a long period of time.
This chapter will explain how shares work and how best to invest in them. We will also examine alternative growth assets such as real estate, peer-to-peer lending, laundromats and royalties.
Your Risk Profile
Throughout this section you will need to consider your ‘risk profile’ – low, medium or high. Growth assets tend to be volatile and it is possible to lose a lot of money, though you ought to enjoy strong gains so long as you don’t panic and stay with them for the long term, as we are about to discuss.
How comfortable are you with this? Here is a guide for a 30-year-old who has plenty of time to ride out fluctuations in the market:
|Ultra-low||Hide cash under the bed and guard it 24/7 with a bazooka.|
|Low||60:40 split of growth to defensive assets.|
|Medium||80:20 split of growth to defensive assets.|
|High||100% growth assets (aside from your emergency fund).|
|Ultra-high||Put it all on red!|
Note that even those with a low risk profile will need considerable growth assets, otherwise they will run into the much greater risk of not keeping up with inflation and being unable to comfortably retire. Once one is nearing retirement this table changes, but that is not our concern here.
Keep this risk profile in mind when we discuss the benefits and pitfalls of shares.
What is Most Important?
Some people get carried away with figuring out how to squeeze a few extra percentage points of return out of their growth investments. But think about it: if you invest $100,000 and get a year-end return of 9% instead of 6% through your genius and painstaking research, that’s only $3,000 extra. You could easily have earned that much with the methods suggested back in the chapter about increasing your income.
Early in life I made a moderate financial mistake which cost me about $2,000 in lower returns. I reproved myself for being so wasteful.
On the other hand, I noticed that despite my mistake I still had a lot more money than most of my friends. How could this be?
The reason I was still ahead of my friends is because they were saving and investing less, and drinking a lot more. This illustrates how important it is to get the basics right, and how much less important it is to invest perfectly.
As stated earlier, it might not be necessary to increase your income in order to reach financial freedom. However, if you can do so, and if you invest the surplus, it will make far more of a difference than spending the equivalent amount of time and effort paining over the very best investments to make. Don’t believe what the get-rich-quick shills tell you: getting a job is a very good way to make money.
To drive the point home: a millionaire living off his investments at 4% will enjoy an annual income of $40,000. That is slightly less than the median US male full-time earnings. Not so amazing, huh?
Consistently and diligently saving and investing your surplus income over a long time frame makes far more of a difference to your overall wealth than the precise rate of return that you achieve.[i] That’s why the steps on budgeting and income came first.
It is not just investing that helps you to get ahead – it is a mix of all the strategies outlined in this book. For this reason, don’t fall into the trap of ignoring income, budgeting etc. and only try to outperform everyone else on stock market returns or on any alternative growth asset. Continue to follow all the previous steps towards financial freedom, choose the investment approach that works best for you, diversify, stick to the plan and let time and self-control easily do what even a clever person’s brainpower and effort can struggle to achieve: grow your wealth gradually over the long run.
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