Money Mistake – Not Buying Equities

I think I’ve made a money mistake.

According to the personal finance blogs that I follow, the stock market has been on a bull-run since 2009. A “bullish” stock market is one where the stock market is rising. A “bearish” stock market is one where the stock market is falling.

Since 2011, I’ve been busily building my army of little money soldiers and I’ve been rewarded with nice, plump dividend payments every month. I don’t use those dividends for living expenses – instead, they’re automatically re-invested into buying more dividend-producing assets. I’m proud to say that I’ve created a lovely cash-flowing side income for myself that will supplement my other retirement income when the time comes.

After hearing about pension failures and the impacts on retirees, I wanted a source of cash that would allow me to survive during retirement if my monthly pension payment happened to be cut or eliminated. I’m a Singleton. This means that I can’t depend on someone else’s salary or expect that anyone else will take care of me. Creating a portfolio that pays me dividends every single month eases my worries about how to survive if my pension disappears.

That said, if I had invested that same money into the stock market over the same time period, my net worth would be a lot higher. I would be that much closer to early retirement!!! I hate to admit it but I’m realizing that choosing not to buy equities since 2009 was a very big money mistake.

Choosing dividends over straight equity investments was very definitely not the right move to make in 2011. According to the good folks on the Internet, the stock market returns have been higher than the returns on my dividend portfolio. In my defence, I wasn’t as knowledgeable as I am now. I succumbed to one of my many flaws – I’m stubborn. I was utterly convinced that my path was the absolute right one for my circumstances.

So now it’s time to fix this money mistake.

My new plan is to invest in an exchange-traded fund that invests in the global market place. This is an equity ETF and I plan to hold it for a very long time. I do believe that over the long-term, the stock market rises.

One of the wisest things I’ve ever read on the internet was an article that stated that one shouldn’t invest believing that age 65 is a portfolio’s end date. It persuasively argued that one’s investment horizon ends at death, not at retirement. People are living into their 80s and 90s, which means that a 40-year old still has a 40+ year timespan over which to watch their money grow. That bit of wisdom shook me up. I’ll need the growth from my equity investment to power my portfolio until the end of my life, not just until the end of my career.

I’ve also decided not to divest myself of my dividend-producing assets. They’ll continue to grow over the next few decades. I’ve accepted that their growth will be slower since I won’t be adding new money to that part of my portfolio. Once my equity holdings make up 40% of my investment portfolio, then I’ll start to consider re-directing new cash into buying more units in my dividend ETFs.

So my portfolio will continue to churn out dividends, and my new money will go towards buying units in my global equity-focused ETF.

What about the recession that’s coming?

Yes – I’ll admit that the Talking Heads of the Media have been nattering quite a bit about the upcoming recession. It caused me concern for about 3 minutes, then I chose to ignore them. I won’t allow their incessant chinwag to dissuade me from my chosen path.

First, no one has been able to tell me when the recession will start, how long it will last, nor how bad it will be. There’s nothing I can do about the recession.

Second, there will be a recovery from the upcoming recession. There is always a recovery from a recession. I have no reason to think this time will be any different. Much like the recession itself, the recovery’s details are a mystery. No one knows when the recovery will start, how long it will last, and how good it will be.

Third, recessions are a natural part of the economic cycle. Stock markets do not rise forever. They go up and they go down. It’s normal and natural. The best bet is to ignore the hysteria from the Talking Heads, to invest early & often, and to go about the daily business of life.

Fourth, I plan to be in the stock market for the long-term. I’m not timing the stock market. I’m starting to put time into the stock market. The only way for me to have time in the market is to start buying now. I’m going to follow the advice of J.L. Collins, who wrote The Simple Path to Wealth, by buying into an equity product and letting the stock market do its thing for a very long time.

I’m never going to make the perfect investment choices all of the time. However, what I am going to do is continue to learn and think about how best to achieve my money goals. And when I find that I’m making a money mistake, I’m going to stop making it.

When you know better, you do better.

Dollar Cost Averaging is a Great Tool

As the warm days of spring roll in and push harsh memories of winter to the recesses of your memories, you may find yourself enjoying the sunshine and asking yourself: What is exactly is dollar-cost averaging?

I’m here to tell you that DCA can be a powerful tool for investors.

In a nutshell, dollar-cost averaging is a method for systematically investing your money. Investors who use DCS invest the same amount of money into an investment on a regular schedule. That schedule can be whatever the investor choose – weekly, monthly, quarterly, annually, or any other increment. The purchase of the underlying asset occurs regardless of the asset’s price.

There are a few of good reasons to use this investment methodology.

Dollar Cost Averaging or Lump-Sum Investing?

Firstly, the DCA strategy facilitates quicker investment in the stock market. Investors can align their investments with their paycheques. Since one my guiding financial mantras is spend-some-save-some, I make sure that a part of my paycheque is promptly & automatically re-directed to my investment portfolio.

There’s a school of thought which says that lump-sum investing is better than DCA because the entire value of the lump-sum amount is put to work in the stock market all at once. If your plan is to invest a large amount in the market, the proponents of lump-sum investing recommend that you invest the entire amount at once. Check out this article from the wise fellow at www.fourpillarfreedom.com for a good discussion of the benefits and drawbacks of the two investment methods.

Theoretically, I have no quarrel with the lump-sum investment style. However, the practical reality of my life is that I don’t have large lump-sums of money lying around. I invest when I get paid because that’s when I have the money available. The money is deposited into my chequing account, then it’s shunted to my investment account, where it sits until it’s invested. For most people without large chunks of money at their disposal, DCA is a better option – in my opinion – because they can invest when they’re paid.

No Need to Time the Market

Secondly, DCA eliminates that temptation to try and “time the market.” Investors who time the market are trying to buy an investment at its very lowest price. Perhaps you’ve heard recent chatter in the system from economists about the impending recession?

What you will never hear from any of those experts is the exact date on which the recession will start. And absolutely none of them will tell you date on which the stock market will be at its very lowest point. People lucky enough to buy at the lowest point will have the best investment returns when the market recovers. Market-timers are always trying to pick the very best time to invest.

Like all investors, market-timers are trying to maximize the profits from their stock market investments. Unlike market-timers, investors following the DCA-method simply invest their money on a consistent basis. They do not bother themselves with trying to buy at the very lowest price. They’re not concerned with the very best returns. They understand that time in the market is more important that timing the market.

Automation Pairs Beautifully with Dollar Cost Averaging Investing Method

Thirdly, the power of automation complements the DCA investment strategy very nicely. If you intend to invest in the stock market, then automatically transferring money from your chequing account to your brokerage account is an excellent strategy.

Let’s say you decided to invest on the 15th of each month. Your automatic transfer will ensure that a chunk of money is in your brokerage account for the purchase. On the 15th of the month, you’ll buy as much of the asset as your funds will allow regardless of the asset’s price. Then you won’t think about investing again until the 15th of the following month. Maybe you want to invest quarterly? That’s fine too. Put the power of automation to work! Gather money in your investment account until it’s time to buy some assets. Never forget the DCA can’t work for you unless you’ve set aside some savings.

This is how I invest. Every month, I invest money into my dividend-paying investments. I don’t follow the price of my exchange-traded funds from one day to the next. Instead, I buy as many units as I can when it’s time to buy. Then I don’t think about my investments again until the dividends roll in.

Easy-peasy, lemon-squeezy – rinse & repeat!

I’ve been using the DCA method to invest my money since 2011. I wasn’t interested in learning to be a wizard at picking stocks. The DCA method was easy to implement and even easier to understand. Much like every other investment method, it’s not perfect and it’s not suitable to for everyone. However, it works for me. I’m confident in this method and I’ll continue to use it until something better comes along.

Cash Flow Diagrams & Passive Income

I’m a visual leaner so when information can be presented in a picture, then I absorb it a lot faster. That’s why I was so damned impressed when I came across the following link on one of my travels through the Internet: Cash Flow Diagrams. In all honesty, this is one of the best links I have ever found!  In a few simple diagrams, Jacob Lund Fisker of Early Retirement Extreme succinctly illuminates the basic underlying principles behind the following concepts:

– paying yourself first;
– acquiring assets;
– creating passive income; and
– benefiting from compound interest.

 

Much ink has been spilled and many trees felled to write numerous books to explain these four foundational concepts. Mr. Fisker has accomplished the same goal with a few hand-drawn diagrams that are not overly complicated nor difficult to grasp. Please, please, please take the time to read Cash Flow Diagrams and figure out if your current cash flow is helping you to get to where you want to be or whether it’s holding you back from achieving your personal dreams.

 

The first diagram is a representation of the cash flow in the lives of those of you who live from paycheque to paycheque without going into debt. You are working hard for your money. When you get your money, you pay for your life and you have no money left over. You have to go back to work to make more money. This is called living at your means. In other words, your means are equal to your money and you spend all of your money between each paycheque. There is no room for investing because you spend every cent you make. This is not a good way to live! There is no breathing room – there is no cushion – there is nothing set aside for the day when you can no longer work. If you’re in this situation, I implore you to find a way to get out of it. Get a part-time job and use the money from that part-time job – or side hustle as it is now called – to get yourself into the position of being able to buy assets as displayed in diagram 3.

 

The second of Mr. Fisker’s diagrams applies to those of you who live from paycheque to paycheque and go into debt. You’re in an even worse situation than the people in the first diagram because you’re using credit to fund your life. Using credit means that you are going into debt. This is a very bad cash flow situation because it means that your money is not enough to pay for your life so you’re relying on credit to make ends meet. You are living above your means, and this is a very bad state of affairs.  The reason why it is so undesirable is that you’re paying interest on the credit that you’ve borrowed. If your paycheque is not enough money to pay for your life already, then it’s an absolute certainty that your money is not enough to cover both your life and the interest owing on your debt. (Again, as soon as you use credit it become a debt!) If you’re in this situation, I would suggest that you do whatever you can to get out of it sooner rather than later. Compounding interest is working against you and keeping you from achieving what you really want from life!

 

If you have disposable income after buying whatever stuff you need to keep body and soul together, also known as: the necessities, then your cash flow is reflected in the third diagram. Disposable income is just a fancy way of saying leftover money. If you, my friend, are fortunate enough to have leftover money, then you are in the enviable position of being able to acquire some assets.

 

What’s an asset? An asset is anything that puts money in your pocket by producing an income payable to you. If you are living below your means, then you have leftover money for investing. And when that leftover money is put to good use through purchasing assets, you are well on your way to creating a stream of passive income. This is a very good thing! Ideally, everyone can get themselves to this point, namely having some amount of passive income even though, at first, that passive income isn’t enough to fund your entire life. Passive income will grow if it is diligently reinvested and left to compound over time. You still have to work, but that’s okay because working means that you’re generating more money to buy more assets that will increase your passive income. Eventually, your passive income will exceed the size of your paycheque. The faster you acquire income-producing assets, the faster your passive income will increase.

 

Once you make it to the fourth diagram, you’re laughing. At this point, the reality of your cash flow is that your assets are throwing off enough passive income to pay for your stuff. In other words, you are not required to work. You don’t have to quit your job if you don’t want to – it’s just that working for a salary is now completely optional. This is a wonderful achievement! You can do what you want with your time because your passive income has replaced your wage as the source of money to fund your life. If you’ve reached this stage, then my hat is off to you – congratulations!

 

The fifth diagram represents retirement. As in the fourth diagram, the cash flow from your assets is sufficient to fund your life and you’ve simply chosen not to work for wages anymore. At this stage, your passive income has replaced your paycheque. Hooray!

 

When I found this article online, I was already living the life depicted in the third diagram. Thankfully, I had no debt and my take-home pay was enough to pay for my living expenses – there was money leftover every payday. My student loans were gone. My mortgage was paid off. I no longer had a car loan.  At that point in my life, I knew that I had to absolutely, positively invest my money after maxing out my registered retirement savings plan (RRSP) and my tax free savings account (TFSA), but I didn’t know where or how or what to do. I didn’t trust financial advisors, so I decided to buy units in dividend-paying mutual funds. (At the time, I didn’t know that mutual funds were vastly more expensive than index funds or exchange-traded funds [ETFs] – now that I know better, I do better!)

 

I set up an automatic bi-weekly transfer of money from my chequing account to my investment account so that I could invest monthly and take advantage of the benefits of dollar-cost averaging. Automating my savings meant that I didn’t have to decide whether to set aside my leftover money. Relying on automation to fund my investment account was an exceptionally smart move on my part because I’m sure that I would’ve been tempted to buy something other than investments if I had to think about saving vs. spending every time I got paid.

 

Did I pick the perfect investment? I doubt it. I’m not that lucky nor am I that smart. Also, my accumulating years have taught me that there is no one perfect investment. I invested in a product that I understood – dividend funds – and set up a dividend reinvestment plan (DRIP) so that my dividend payments were automatically reinvested. I had no idea whether this plan would work perfectly. All I knew at the time was that dividends were a form of passive income. I knew I didn’t have the skills or inclination to read company reports and to follow the stock market. I knew that I wanted an investment portfolio that would supplement my other retirement income when I decided to leave work. Dividend mutual funds – and, later, dividend ETFs – satisfied my list of what I wanted for my portfolio so I picked one and started investing.

 

Dividend payments are my preferred form of passive income so I invest my money in dividend-producing assets. As a Singleton, I don’t have the benefits that come with having another person’s income contributing to my household. Having a reliable stream of dividend income soothes some of the risk of living in a single-income household. My goal is for my passive income to cover my monthly necessities. Once I’ve met that goal, then I’ll know that I can survive on my own even if my salary goes away.

 

As a result of my choices to automate my money and to invest it regularly, I’m now in the position of comfortably earning four figures of dividend income every month. My passive income stream is not yet enough for me to live on, so I still have several years of working in my future. However, my passive income is compounding every single month as it’s added to the new investment purchases that I make with the money that is automatically transferred to my investment account when I get paid. I’m comfortably investing the equivalent of one paycheque every month. I like to think of my dividend income as my side hustle income, even though I don’t have to do anything other than breathe to earn the dividends.

 

Where are you now? And where do you want to be in five, ten, twenty years?  How much passive income do you want in order to live the life of your dreams? What steps are you taking to put yourself in the cash flow position that you want for your future?

Building an Army of Little Money Soldiers

One of my life’s goals is to build a nice, solid flow of passive income without getting a second job. The way I decided to do this was by building an investment portfolio using a dividend-paying exchange traded fund (ETF). I think of the individual units in my ETF as Little Money Soldiers whose sole purpose is to acquire more and more dividends for me every month. The dividend income that I earn can be used any way I want, and right now I want it to fund my dream of financial independence.  Every single month, I add to my army of Little Money Soldiers by buying more units in my ETF and I send them out into the world to do their thing – they do it well. I don’t have to do anything beyond sticking to the plan of contributing to my portfolio regularly and watching my dividends grow. My Little Money Soldiers do the rest.

As a Singleton, my paycheque is the primary source of income in my household. Years ago, I’d heard about how smart couples of means would live on one income and bank the other. Ideally, the really well-off couples would bank the higher income and live off the smaller one. I envied such couples! The reality was that I was not in a position to live on 50% of my take-home pay. I wasn’t willing to live that close to the bone because I wanted to be able to socialize with my friends each month and do some travelling. When I learned about dividend income and started doing some blue-sky dreaming about how dividends could be used to supplement my income, I couldn’t buy them fast enough!

Dividends are a second income in my otherwise single-income household. Unlike married people in a single-income household, I don’t have a partner who can go out and earn some money if my main income source dries up. My monthly dividend income is financially akin to having a partner with a part-time job. If I were to lose my paycheque, my dividends could help me survive from one month to the next. Obviously, I would lose the benefit of the dividend re-investment plan (DRIP) because I would need the dividends to pay for my absolute necessities while I looked for employment. As a single person, the dividend income created by my Little Money Soldiers provides a certain level of psychological comfort because I know that, should I lose my current job, I will continue to have income until I find new employment and start getting a paycheque again.

Right now, my investment portfolio produces a part-time income. If I continue to invest on a regular basis and if I refrain from spending my dividends rather than re-investing them, then my investment portfolio will eventually produce a second full-time income for my household. I will have the financial benefits of an imaginary spouse/partner without the real-life drawbacks that come with sharing money with a sentient human. And unlike other side hustles that are regularly touted on the Internet, my army of Little Money Soldiers goes out to work on my behalf thereby allowing me to indulge my inclination towards laziness. I don’t have to do anything outside of my comfortable routine in order to earn this money. It’s all mine – it’s tax-advantaged – it’s automatic – it’s wonderful!

For the past 7 years, I have consistently been investing in dividend-producing assets. I’ve reached a point where I consistently receive a 4-figure dividend payment every month. And since I don’t spend the money, it is automatically re-invested on my behalf. (Check out this awesome article for a primer on how DRIPs are the next best thing since sliced bread: My dividend employee Steve.)

I was very lucky that my parents were interested in the stock market. Both of them invested on a regular basis so I knew that there was a way to make money without actually having to go to work. Of course, my six-year old brain didn’t quite grasp all the intricacies of what each call from my mother’s broker meant but he phoned on a regular basis. (As an adult, I’m quite convinced that he merely churned her account to generate fees instead of acting in her best interests to make money. Nowadays, my mother invests on her own through her self-directed brokerage account and she’s doing quite well!)

My father’s style of investing was much different. He introduced me to the concept of dividends, and bought me several shares in companies that are still around today. When I was in my early 20s, I opened my own self-directed brokerage account and used my initial principal to buy shares in the various Big Banks. Again, betraying my youth and lack of knowledge, my only criteria for which bank stocks to buy was whether the bank participated in a DRIP. If the answer was yes, I bought $1,000 worth of stock in the bank. To this day, those banks still pay me dividends every quarter. I freely admit that this wasn’t the smartest way to pick my investments, but I could’ve done a whole lot worse! Every one of those banks is still around and the stock price has grown over time. Buying those bank stocks was one of the best financial decisions that I’ve ever made, even if the reason underlying the decision was not well-founded.

As we all know, time waits for no one. I learned more and more about investing by reading books, internet articles & personal finance blogs. They were all consistent that the way to earn outsized returns was to be invested in the stock market. I had little interest in becoming a expert in the stock market but I appreciated that the best historical returns went to those who had equity investments. Buying stocks in companies that paid dividends meant I was investing in equity. Dividend payments were a passive way for me to earn money and to participate in the stock market – to me, it was the best of both worlds! I started contributing more regularly to mutual funds which paid me dividends, then I learned about ETFs and index funds and a light went off in my brain. Why should I willingly pay higher management expense ratios (MER) for my mutual funds when I could buy the same basket of assets through an ETF or an index fund for a fraction of the price?

So, after paying off my mortgage at 34 and becoming debt-free, I turned my focus to building my non-registered investment portfolio. I promptly found an index fund that paid out dividends every single month so it was time to say bye-bye to my mutual funds. I was still investing in dividend-paying assets but I would be paying a lower MER to do so. My new index fund would simply pull the money from my chequing account and the investment would be made. Making the switch was a no-brainer! I set up an automatic contribution from my paycheque to my index fund. My first index fund offered a DRIP feature and I was not responsible for re-investing those dividends into new units of the index fund every month. The dividends were DRIP-ped, i.e. automatically re-invested into more units of my index fund, rather than paid out to me in cash. It was fantastic!

Two years ago, Vanguard came to Canada and I started doing some investigating. Vanguard has very low MERs on their products. One of those products was an ETF that paid out dividends every single month, offered a DRIP feature, and had an MER that was much lower than the one on my index fund. This was a hat trick! I could get all the benefits of my previous index fund portfolio while saving money on the MER and accruing even more units of the ETF every single month. Sadly, Vanguard will not simply withdraw the money from my chequing account – I have to transfer money to my brokerage account. Big deal! For $9.95 a month, I’m paying a much lower MER and earning sufficient dividends which more than cover the cost of the monthly purchase. I spent 15 minutes opening my online account. Then I spent another 3 minutes setting up an automatic bi-weekly transfer from my paycheque to my brokerage account to fund each month’s purchase. I haven’t looked back. Every month, I buy more units in my Vanguard ETF after the last month’s dividend payment has been automatically re-invested.

Earning money through dividends is awesome. I don’t have to do anything other than purchase the underlying asset and the dividends flow to me every month like clockwork. In the words of my very wise hairdresser, it’s money that I don’t have to sweat for. What could be better than that?