Andy Sirski explains how you can build wealth with lots of money and no knowledge, or a little money and lots of knowledge
Long time Grainews readers know I left home with almost no money and no knowledge about how to make money work for me. I had to learn this as I went through life, worked at a busy job, helped raise five children and planned for retirement with no guaranteed pension. We’re comfortable, so I think we did most things reasonably well.
We were also fortunate from another angle. My wife and I usually lived within our means. We lived in an old home in a nice old neighborhood, within eight minutes of downtown, 14 minutes from the airport and 20 minutes to the University of Manitoba. We drove and still drive old cars, but our kids all have a good education and no student loans.
Are all of our kids going to retire rich in 30 to 35 years? I don’t know. Some hope to do that sooner. They could because they certainly have the information about how to build wealth close by — me. I did not have anyone with much knowledge to work with.
I had to find the knowledge, save some money and have the courage to risk my cash. Over time, we built some wealth and our own private retirement plan.
Many people have little knowledge on how to build wealth and seem to have no inclination to get the knowledge I can only hope they will have lots of money to work with.
The question is: how do we build wealth? Is it with some money and lots of knowledge or do we skip the knowledge and hope to have lots of money come our way?
I don’t know where you are on that scale of knowledge and money, and maybe it doesn’t matter all that much. But I do wonder about your children. Will they have lots of money and no knowledge, or will you try to help them have knowledge so they can build wealth with however much money comes along?
Push the boards together
Imagine two four-by-four boards cut at a 45 degree angle. Place the angled cut so the cuts are aligned, with the thin tip of one board touching the thick end of the cut on the other board. If you do nothing, the two boards are just as thick as they were before.
If you pull the boards apart you’ll create a crack between the boards and the wind can blow through there.
But watch what happens if you push the boards together so they climb the angle. The joint where the boards meet gets thicker and thicker, up to a point where you have a spot where the boards are two boards high. I equate this to the magic of compound interest rates or compound growth.
Now, let’s call one board knowledge and one board money. Sitting flat there is no growth — you have what you have. It’s like investing money these days at two per cent interest per year.
Then start to bang the end of one board or the other and you get a thicker and thicker joint. Bang on the money board and it grows. Bang on the knowledge board and you get growth. Bang on both and you get faster growth. I hope this makes sense.
We can be quite sure most farm kids will have money. Farm kids have a work ethic, and most will get a decent skill and or education.
But will they have the board called knowledge? Will they have the skill to make their money grow at a respectable rate of return so they can have a nice life and a nice retirement without too much personal sacrifice? Will they have the discipline to live within their means and build knowledge and wealth?
They can, but it might help them along if you as parents or grandparents can help them learn.
What we did not have
As I was growing older, I did not have the knowledge I have today about making money grow. And I didn’t have a whole lot of money either. Registered Retirement Savings Plans (RRSPs) at that time allowed only small contributions, not the large ones allowed now. We didn’t have a Tax Free Savings Account (TFSA) where money earned interest tax free. But we had high rates of interest, so the magic of compound interest helped money grow.
How is that? If you divide the number 72 by the rate of interest earned, you’ll get the number of years it takes for your money to double. Or close, at least.
For example, divide 72 by a typical rate of interest back then — say nine per cent. Money would double in eight years. Over an investment career of 30 years, your first slug of money could be expected to double almost four times. So $1,000 could grow to $2,000, then to $4,000 and then to $8,000 in 32 years. Even if it took eight years for the first batch of money to grow to $10,000, that lump would still have almost three more times to double. If a person had $10,000 by age 30, the money could grow to $20,000 then $40,000 and finally to $80,000.
Back in my day, and maybe yours, it was very hard to have $10,000 contributed to an RRSP by age 30 partly because we didn’t have the money and partly because the contribution room was so small.
Today’s savings tools
These days, most people have several tools that can help them build wealth. First, they can contribute a lot of money to an RRSP and deduct that from their income tax and get a big refund. Second, wages are higher — even if life costs more, disciplined spenders can usually save good money.
Next, investors with RRSPs can borrow some or all of that money and use it to buy their first house. Then, they pay themselves back year by year. I’m not totally convinced that this is a good long-term idea but if the money is there, why not? The money in an RRSP that was deducted from income tax and had sheltered gains can come out tax free and be used to help buy a home that will likely go up in value to create tax free capital gain. Not a bad deal.
Since 2009, most Canadians can set up a TFSA and put up to $5,000 a year into the plan (you could have put away $20,000 up to 2012). All of the money gained or earned within the TFSA earned will be tax free while in the plan and when it comes out.
The TFSA contribution limit is $75,000 lifetime per person, but if you compound $5,000 a year at eight per cent, contribute $5,000 a year and compound the entire cumulative value for 15 years, then consider another 15 years with no additional contributions, you will have a pile of money. All tax free gains. The $75,000 will not be deductible like RRSP contributions, but when it comes out it will not push up income so old age pension is clawed back.
While we had the benefit of relatively high rates of earned interest on our money, these new investment programs can help people build wealth a lot faster than we could.
Parents or grandparents can also put money into a Registered Education Savings Plan (RESP). While that money is not tax deductible going in, the government tops up the contribution by 20 per cent, which kick starts the plan. Because most students will be in a zero or low tax bracket when they take that money out for post secondary school, it can all come out of the RESP at zero or low tax. This reduces the odds of your kids graduating from university with big fat student loans. While interest paid on student loans is a tax deductible expense, student loan payments of $300 a month will boosts the demands on a young graduate’s cash flow.
Where is the knowledge?
While there are many investment vehicles to use to save money for college, a house and or retirement, the rate of return might be very low for the unskilled investor (or for what I call dumb money). If money earns two to four per cent annually for the next ten years, it will not grow very quickly.
At the beginning of this article I asked the question: build wealth with lots of money and no knowledge or build wealth with little money and lots of knowledge? Of course there are readers with lots of money and knowledge. There are also readers who have no money and no knowledge. Life is not going to be easy for them. And there are people who are getting the knowledge and I’m pretty sure will eventually find the money.
What is the sweet spot in life? I think it is some knowledge and some money. There is what I call the magic of compound knowledge. Learning gets easier as we learn more. Then we can expect our money to grow faster and faster.
But don’t expect to become an expert investor in a week or so just because you suddenly had a bright idea. Recall Janita Van De Velde’s article in the February 13 issue of Grainews. She was writing about The Velveteen Rabbit and the beat up old toy horse, and what it takes to become a loved toy.
I translated that idea into the question: what does it take to become a good investor? It will take some time, some experience, likely some money, perhaps some bad experiences. But it will not happen by accident. Becoming a decent investor needs a starting point. And the education might never end.
Odds are you and your children might have to flush some old investment ideas and replace them with new ones. But if you are not happy with your past investments, doing the same old thing and expecting better results is not likely the way to improve returns.
You and your children might have to read new stuff. Books like The Wealthy Barber by Dave Chilton, Think and Grow Rich by Napoleon Hill, and Get Rich with Options: Four Winning Strategies Straight from the Exchange Floor by Lee Lowell can open minds and help shorten learning curves. I’ve also found a book by Larry Winget called You’re Broke Because You Want to Be: How to Stop Getting By and Start Getting Ahead.
We use a very specific strategy to merge stocks with creating cash flow by selling covered calls. Some of our stocks are like milk cows and others are like growing steers.
This strategy can be used in a trading account, in an RRSP, or in a TFSA, but it will take some new knowledge. I’m not saying you have to learn this from me but if you’re not happy with past returns, or if your children want to start developing investment knowledge, someone will have to do some study work. Many parents or grandparents even help their busy children with their investments to get the accounts going, in hopes that the kids will start to learn sooner or later.
One of the best things parents and grandparents can leave their descendents is knowledge. Unfortunately knowledge is hard for a lawyer to write into a will. It will have to come from you while you are still able to read, talk and think. So it might be a good idea to get started now. †