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Financial literacy doesn’t always come easily. But once you have it, you’re able to make good decisions about how you use your money. In the long-term, it can really pay off. You can have two people aged 20 with identical career paths, but the one with financial literacy winds up being much more successful. In many cases, the differences can be tremendous - sometimes millions of dollars.
Here are some signs that you are financially literate:
Budgeting is important. In the long-term, it can mean the difference between having a substantial retirement income and not.
Budgeting, though, isn’t something that everybody does. A lot of people take a backseat approach to their finances, assuming that they have all the money to do the things that they want to do, even if they don’t.
Budgeting is vital, though, if you want to build wealth long-term. It shows you how much money you have coming in, what you have going out, and the difference you have to play with.
You can invest a small amount of money every month and then allow it to grow over many years into your retirement fund. But a much better strategy is to go beyond minimum payments and ratchet up your savings. The more money you can put away early on, the better off you’ll be.
Asking how much you can save is one of the best questions to ask a financial advisor. What you can put away usually depends on your income, tax arrangements and various pension schemes.
As somebody who knows about money, you check your bank and brokerage statements regularly. You always know the value of your cash and financial assets. You keep track of the markets, understanding that they are liable to go up as well as down.
How do the wealthy stay wealthy? They do it by buying capital.
Capital is anything that produces a future income stream (without you having to directly work for it). Financially literate people focus their investments on stocks and real estate because both of these assets generate earnings.
Albert Einstein called compound interest the most powerful force in the world. And he was right. When you allow interest to compound, your wealth rises exponentially. Small changes in the money you invest at the start can have a massive impact on the total that you generate.
Compound interest works best when the returns you get are high - say, over 9 percent. But even if your portfolio behaves more modestly, the total money you have in your account can soon add up. A 5 percent return on $200,000 is still an extra $10,000 per year.
Many people worry about inflation. But for most income-earning and share-owning people, it’s not a problem. If inflation strikes, you can just bargain for higher wages (most companies will adjust them automatically). And if you own stocks, then the companies that you own can also adjust their prices upwards, protecting you against any fallout. Inflation is only a problem if you hold cash.
Relying on a single source of income is generally a bad idea, especially in today’s volatile economy. Businesses fail all the time, and it is often hard to know which will be next.
Financially literate people, therefore, work on securing multiple sources of income. They work hard in their day job, but they also begin investing in other things on the side. For instance, they might buy a property that can generate rental income for them each month. Or they might buy dividend-paying shares.
Some people actually nurture a side job alongside their main career so that they always have something they can fall back on, should they become unemployed.
Unless you are an investing genius, diversification is the best policy. Spreading your money across multiple areas increases the likelihood that you will generate positive returns in the long-run.
Unfortunately, most retail investors don’t do this. Instead, they invest their money in one or two firms hoping that they will perform. Usually, they don’t.
If you can, keep your money in a mix of assets. Buy a diversified stock portfolio and then supplement it with property wealth, bonds and rental income. You might also want to hold a small amount of gold to protect your cash holdings against inflation.
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