Welcome to 2019. I have been writing this column for more than 30 years, and usually my new year recommendations have followed the same track: list your assets and liabilities, set goals, and then plan how to use those assets to achieve those goals.
But today I’m going to take a different approach, and give you some interactive exercises. These will be a learning experience, as well as providing some good family fun.
They are all based on the calculators available on my website.
Start with my Compound Interest Calculator. A knowledge of the way compounding works is essential for anybody who wants to become financially successful. This calculator will show you the importance of time and rate, and why the rate matters so much more over the long term than the short term. You could start by entering rate of return of 4 per cent, a yearly investment of $5000 and an opening balance of zero. If you choose a term of two years you will notice your investment would be worth $10,200 after two years: $10,000 of contributions and $200 of earnings.
Now keep the term the same but change the rate to 8 per cent. The closing balance becomes $10,400 – the difference is minimal because the term is short.
You will notice the calculator displays projected balances for 50 years. So now run your eyes down to the 40 year mark for the two scenarios and notice the massive difference the rate makes. At 4 per cent the portfolio would be worth $475,128 in 40 years, at 8 per cent, almost $1.3 million.
Next, put this information to use by going to the Super Contributions Indexed calculator, which lets you enter your present superannuation balance, salary and expected salary increases. Model the various scenarios offered and notice what a massive difference the estimated rate of return makes to your retirement balance.
Third, use this knowledge of the way interest works to check out your housing loan. Go to the Loan Calculators, enter your present debt, monthly payments, and interest rate, and straightaway you will find out how may years you have to go and how much interest you will be paying.
Suppose you had a loan of $400,000, at 5.5 per cent, with repayments of $2271 a month. The calculator will tell the term is 30 years and you will pay $417,000 in interest. There are much cheaper interest rates around, so re-run the numbers on the assumption you have refinanced at 4.5 per cent. If you continue the same repayments, that chops the term to 25 years and reduces the interest to $255,000. That’s a saving of $162,000 just for picking up the phone and negotiating a lower interest rate.
Smart folk invest the money they’ve saved by using such strategies. So finish up by exploring the way shares work. My website has a Stock Exchange Calculator which lets you choose an investment amount, then enter a starting month of your choice, and a finishing date. The calculator will work out how much your portfolio would be worth if it matched the All Ordinaries Accumulation Index, which includes income and growth.
Let’s pick June 2008 and pretend you invested $100,000 just before the GFC hit – one of the worst possible times in history to invest. The calculator will tell you that your portfolio would now be worth $173,000 – a compound gain of 5.63 per cent per annum.
There is also a Dollar Cost Averaging Calculator allowing you to do similar modelling based on a regular monthly investment instead of one lump sum.
My New Years wish is that you make 2019 the year you get educated and set your steps on the path to financial independence. Use and understand these calculators, and other tools on my website – they will equip you with the knowledge you need.
- Noel Whittaker is the author of Making Money Made Simple and numerous other books on personal finance | firstname.lastname@example.org