For many years I have been convinced about the impact one’s personal spending habits and patterns has on the amount of lifetime wealth they are able to accumulate to fund their future standard of living (particularly in retirement – when working becomes a choice). None of us may be able to control the share market, but we all can control they way we spend!
For those of you who are actually serious about achieving your financial and lifestyle goals and not just living in hope that it will just work out in the end, please take the time to read the following article entitled “The Fundamental Question for Wealth Creation”. If you agree with themes that Grant McCorquodale presents, please refer to our Cash Flow Monitoring Service.
Lastly, and most importantly, take action by contacting us to arrange a time to meet so we can discuss how our dedicated team can help you develop your spending targets, monitor your progress and provide the necessary accountability to help you achieve your financial and lifestyle goals and make smart decisions with your money!
The fundamental question for wealth creation
Head of Intermediary Cash Services – Core Equity Services
What if the financial markets track sideways for the coming 15 years and no growth is delivered? This has effectively been the path for the All Ordinaries now over the last four years, effectively oscillating between 4,000 and 5,000 points, and thrown many investors’ confidence in capitalism and wealth creation off course. What is one to do? Should investors:
- Sack their planner because they are not making them any money?
- Stop investing altogether because they cannot make money in these times?
- Convert all our investments back into cash and hold it in their bank account free of risk?
- Realise that for an undetermined period ahead 100% of their wealth growth outcome will come from their own funding strategy and not the returns from the markets.
For 18 years, between 1960 and 1978, the share market effectively dragged sideways throughout this prolonged period and investors were left to reconsider their strategies ahead. These times were nowhere near as precarious as today’s global markets and did not contain such uncertainties as the collapses of several countries’ economies as we see across Europe and the collapses of global banks throughout the UK, Europe and the USA. Yet investors seem bewildered when markets don’t return the positive outcomes that they have been used to and call out blame on financial advisers for not knowing this.
Most realists today estimate a reasonable return expectation for a balanced portfolio is approximately 5-7% p.a. (inclusive of income). That’s it – that’s all. From this, one can reasonably conclude that their wealth generation outcome is therefore 93-95% their own responsibility through their funding strategy, given the managers or markets will only deliver them 5-7%!
The answer therefore is D. As opposed to their wealth creation outcome being 95% their responsibility and 5% being the returns of the markets, for the period ahead it is 100% their input. Markets are not the primary responsibility for their wealth creation – it’s the investor.
Evidence on the wide dispersion in wealth accumulation success is not a measure of how much we earn, nor accounted for our investment choices but how much we don’t spend.
For many this simple insight is an inconvenient truth that is not for them to own.
A client recently lamented to me that “last year shares were doing alright and property was falling and now this year shares are falling and property is doing alright”. His question was “in your view should I buy shares or property?”
I returned by suggesting he considers his wealth creation strategy to be like a big cast iron bath – one of those deep ones with the cast iron legs and his responsibility is to fill the bath. “At the end of the bath there are the 2 taps; one tap represents shares and the other property. What you are telling me is last year the hot tap was shares and the cold tap was property and this year the hot tap is property and the cold tap is shares. The question to ask yourself is not which tap should I use, but have I put the plug in?”
The plug in this client’s scenario is his spending habits. Wealth creation amounts to nothing if one is spending all they are earning and cash is flowing out uncontrollably. To take the metaphor further – it doesn’t matter which tap to use – it’s all water! Your job is to fill the bath. I continued “a warm bath is better, as no one likes to be scolded, so perhaps both taps are wise”.
We turn our stomachs upside down with the pain of choosing “shares or funds”, “equities or property?” when all along it doesn’t matter – it’s all wealth. The real question is have we put the right system in play to prevent us spending all our investment potential and channel this cash flow for our own security? This is the unfortunate reality of many Australians who now struggle financially and look to blame their adviser, the financial markets, the Government, their bank and anyone else in their line of fire. Some even believe any investment is risky, instead happy to see all their money disappear forever down the drain through consumption and consumerism.
The real Global Financial Crisis is our spending habits and our daily denial to our continued cost of living strategy. This is based in part on our lack of cash flow management strategy and system and part on our observance to our neighbours’ and friends’ purchasing behaviours.
Thousands upon thousands of Australians are being brought into a state of poverty by our great anxiety not to be thought poor and we choose to consume well above our means, mostly because we observe others doing the same and do likewise. We have all learned how to spend with great skill, enthusiasm and justification. Investors need to authentically look into their progress and set commitment paths ahead on their own terms –and not on their neighbours’ lifestyle choices or poor financial habits.
For many this needs to be in their approach to capital management and by this I am not referring to their ability to foresee market directions of shares or property, but to recognise their cash flow management strategy is failing them and they need to considerably revise this.
Fortunately doing so is a very easy task. They just need to separate their investment cash flow management strategy from their consumption cash flow strategy. It’s that easy.
Advisers can look into any investors cash flow patterns, or bank statements, and see those who are progressing and those who are floundering and it all comes down to a very simple decision. Those who make financial progress have set up a second ‘investment cash flow management system’ or Cash Management Account, alongside their consumer/expense account and can therefore track their financial progress and focus on it. Those who try to build wealth by mixing all their cash flows together (investment and consumption expenses) by using a single consumer bank account fail because they spend it all and can’t control it. Advisers tell me this every day.
The first step in any financial plan is to separate the cash flow systems and develop a clear cash flow pattern for cash flows and then turn the taps on.
The architecture of Cash Management Accounts support investment administration outcomes whereas the architecture of the consumer bank accounts support consumption or spending. This is the first step towards successful investment performance and a critical step forward for financial security.
I see most planners today adopting this with every client coming into their offices. Like a personal trainer who sees his new client walking into his gym carrying some extra weight around their waistline, he declares “I can see where your diet needs to change and we’ll start an exercise system/programme immediately”.
Likewise, as a client steps into a financial planner’s practice they want to improve their financial fitness and performance outcomes and should be greeted with the same welcome “I can see your cash flow needs to change and we need to start a proper cash flow management system to work and track your progress”. It is not about the performance of their investment choices – it is primarily about their own performance!
As your adviser considers how to improve your position in the year ahead you need to ask yourselves the question “if I was a company would I be worth investing in? Is my cost to income ratio almost 100% and therefore I am a worthless investment, or at best a poor investment?” We apply these questions to our investment choices therefore likewise we should apply this to our greatest financial asset, ourselves.
After all wealth is not measured by how much money we earn but by how much we don’t spend.
In summary, the message for investors is “don’t sack your planner, don’t turn your back on the markets and don’t sack yourself”. A cash flow management strategy and system is the primary driver to wealth management outcomes. Focus on what’s in your control and own the responsibility for your outcomes.
As the information in this article has been prepared without taking into account the objectives, needs, financial and taxation situation of any particular individual you should, before acting on this information, consider its appropriateness for your circumstances