The title is made partly in jest, of course, as we all know that money does in fact exist. What I'm trying to convey, however, is that money as we know it doesn't by itself represent anything useful, valuable, or meaningful to humankind - money is only a means at moving towards useful, valuable, or meaningful things. Money is just a storage system (similar to a battery) where the value we created is "stored" instead of spent.
Imagine a factory that produces electricity. That factory can either:
Now, there really isn't a third way is there? If we don't use it and we don't store it, the electricity will no longer be accessible to us.
In a similar manner, when we earn income by working or creating value in the world, we can either spend the income or we can store it in the form of US Dollars (or another type of currency). We can put these dollars into a checking account, a savings account, under our mattress, or invest in various ways, but either way, what we are doing is storing the purchasing power we created through our productive actions for use at a later time.
Of course, this is a big simplification and there are many gray areas and nuances that are ignored in our very simplified analysis, but it's suffice to say that thinking of money in this manner could prove both interesting and useful.
Now, if we do think of money as a battery, the next question is "What happens when we don't use it?" In general, like electricity stored within a battery, if we don't use the purchasing power stored in our money, the purchasing power will slowly wither away due to inflation. The purchasing power could also very abruptly be eliminated in the case of a some sort of national disaster that leaves the currency worthless (there are countless examples of this throughout history). So, if we are to be wise, we might want to diversify - we might want to store our accumulated wealth in different batteries in different places in an attempt to prevent an unreasonable amount of exposure due to a single point of failure. Additionally, knowing that all batteries degrade over time, we will want to pump the money out once in a while and put it back into productive endeavors (eg. investing in new businesses, purchasing real estate, purchasing education, donating it etc.).
The Complete Guide to Saving $1000 - Whether it's your first $1000 or you need extra cash, here is how to you can quickly earn and save more money
Every journey begins with a single step. Have you heard of that saying? You’ve probably heard of it and although it might sound cliche, it is extremely insightful. If you don’t have at least $1000 put away you have not taken your first step on the path to financial freedom - it’s time to take it with the help of Pennies and Pounds in this in-depth guide. The first step on your path to financial freedom and wealth is putting $1000 away as a starter emergency fund - that fund will stand between you and the financial emergencies that will come your way in the future. Without even $1000 saved, you are exposed to extreme risk because even a slight financial emergency has the potential to wipe you out financially or put you into debt. Read the piece below for a comprehensive guide on getting to your first $1000 and you’ll be well on your way to financial success and financial freedom.
If you don't have $1000, you're in a dangerous situation!
Whether you are 18 or 80, if you don’t even have $1000 in your pocket in the developed world, you’re in a dangerous situation and you must immediately do the things below to build up at least a basic $1000 rainy day fund.
A rainy day fund or an emergency fund is a required part for most financial plans because it protects you in various ways. You can read more about why you need an emergency fund in this very comprehensive article that will surely make you look at your finical life in a different way (check this article our immediately after reading this article):
However, if you don’t even have $1000 saved, we can’t yet be concerned with a real emergency fund because you don’t even have a tiny buffer between you and life’s uncertainties and financial storms. An emergency fund will almost always be more than $1000 if you’re an adult with living expenses (and will definitely be more than $1000 if you are running a household), but we must take the first small step, moving you from the absolute nakedness of not even having $1000 saved to putting a $1000 financial blanket over you.
Without any money saved in a rainy day fund or emergency fund, you will have trouble handling the following possible financial emergencies:
Additionally, without even a bare minimum of $1000 saved, you will likely find it very difficult and stressful to deal with expenses that aren’t emergencies, but that are rare (eg. those that occur once every few months, once every few years, etc.) - expenses such as:
If you don’t have $1000 saved, you probably know the above already and you probably already know how stressful life can be without some sort of financial cushion, but we must reiterate it in order to really demonstrate how important it is that you act now and act quickly to put $1000 away.
Once you have your $1000 saved, you will feel much better. Although $1000 isn’t a proper emergency fund for most people, you’ll still have some breathing room in your life once you are able to put away your first $1000 - you’ll have some cash put aside for when life comes knocking on the door. You’ll know that you can handle small financial emergencies easily because you have the money put aside for them. You’ll also feel proud for doing it because getting to your first $1000 (regardless of your age) isn’t an easy task. If you can get to $1000, you can move forward to building up a full emergency fund and then building some wealth for you and your family.
This is why you don't have $1000 already
If you don’t have $1000 put away already, it’s likely for one of the following three reasons:
First, let’s address the third category - if you recently dealt with a financial emergency that wiped you out financially. That’s a very tough situation to be in. However, if you had an emergency fund before the financial emergency and if you had some wealth built up, you actually did pretty well. Yes, you’re back at square one now, but you have proven yourself capable of building an emergency fund and building wealth. So, you can do it again, even though it may seem incredibly hard now. In a way, we’re not as worried about you as we are with those in the first two categories. So, ask yourself whether or not you were doing well once financially and whether or not your current situation is just because of some finical emergency. If that’s the case, get back up, look into getting some more insurance in place to guard you in the future, and begin anew, with the knowledge that you’re capable of doing what’s right for your finical life. There’s deep dignity in being able to take a hard punch to the chin and having the grit to get back up again - have the grit and get up.
Now, on to the first two categories - these are serious issues because they demonstrate fundamental or structural problems with your finical life - it’s not that you had a run of bad luck. If you’re in the first two categories, some drastic but focused changes will need to be made so that you can get on the right track finically and put some money aside for yourself and your family.
1. Don’t Make Enough Money
This is tough and everyone should understand this. After the Great Recession, the US economy (and generally speaking, the global economy) has recovered, but it has been an unusual recovery compared with other economic recoveries in the last century - it has been a recovery in the stock market and the GDP, but not in employment. Yes, the unemployment rate has dropped, but the definition of the term “unemployment” is very precise and that precision can be misleading when people exit the workforce. We won’t go into the details of how unemployment is measured or the technical definition of the unemployment rate in this article, but it is important to note that just because the unemployment rate has gone down doesn’t mean that things have gotten much better in terms of employment - people might be employed but underemployed and some people might have dropped out of the labor force altogether (and, therefore, wouldn’t be counted as unemployed per the current definition of unemployment in the United States). Those are a lot of words to explain what you probably already know, just because you have a job doesn’t mean it pays enough and doesn’t mean you have enough hours at it to make a good income.
If you don’t have an income at all currently and are on your own (if you’re pursuing some sort of education and are living with parents or other relatives you’re not really on your own yet) then you’ve got a bigger problem than those that are underemployed - you’re not even earning anything. That’s an understandable position to be in - the economy of the United States and much of the Western World has shifted and is continuing to shift towards a more capital-intense knowledge-powered economy that is making many people simply unemployable. What this means is that many people aren’t unemployed because they are lazy or don’t apply for jobs or because they somehow failed to get the right skills - it’s that we’re transitioning towards an economy where there are no right skills for you to have, an economy where not everyone can have a job because there just aren’t that many jobs available. Now, we know it’s a tough situation for many people, but that can’t stop you from doing your best to earn some sort of income and putting some money aside for the future. You cannot afford to be left in the backwash of the transitioning global economy - you must find the energy to do something today to move forward while at the same time creating a gameplan for the future.
Whether you are underemployed or unemployed, you should likely get working right now in some part-time job or freelance gig. The job doesn’t have to be something you see yourself doing one year from now, it just has to be something that can reliably bring in extra cash every week and every month, allowing you to put some money aside to get you to your first $1000.
A few potential side gigs to earn extra money fast
Pizza Delivery: This is a slightly old-school recommendation for a part time gig but it can still work in the right situations and for the right people. It doesn’t pay very well hourly, but you have the potential to earn a decent amount in tips if you work in a good area and are personable.
Drive for Uber or Lyft: This seems like the 21st-century version of the pizza delivery job. It’s becoming common knowledge that Uber, Lyft, and other firms are attempting to move away from human-based transportation, so the opportunity to earn money with Uber and Lyft might not exist a decade from now, but you can definitely take advantage of it today as long as your car meets their requirements.
Cashier: This works best for seasonal work - times of the year (usually the holidays) when business picks up and extra workers are temporarily needed. There are a few disadvantages with this type of job, however. You can’t set your own ours and you can’t work extra hours. Freelancing or driving for Uber, for example, you can decide to have an intense two weeks and drive a lot of hours to earn some extra cash quickly - with a typical cashier (or similar) job you just can’t do that and you’ll have to be ok with the money trickling in slowly. Additionally, the pay is likely to be low with few or no opportunities to earn tips.
Upwork: If you have some advanced and in-demand skills, check out Upwork, an excellent way to freelance online. It might take some time to build up your profile so you’ll have to be a bit patient compared to other jobs (you don’t start earning much immediately) but you have the potential to earn a very good hourly wage and you can work from anywhere.
Fiverr: Similar to Upwork, but paying less, Fiverr allows you to freelance and take jobs from anywhere if you have in-demand skills.
If you can get a side job (or two - and possibly three), even temporarily, you should be able to put enough money away every week or every month to build up your first small rainy day fund of $1000. If you’re in this camp, however, you need to make sure to stay vigilant and forward-looking because you don’t want to:
The ideal situation is you working now and putting money aside while developing some sort of gameplan to earn more in the future - earn more not just by working more hours but by earning a higher hourly wage. To earn more per hour, you’ll need to improve yourself - you’ll need to improve your technical or job-related skills, your professional skills, and your overall personality. Think about where you want to be in a year and in a few years and move in that direction, getting the necessary skills and experiences so that you can end up in the job you want (and can realistically obtain).
2. Earning a Decent Income but Spending Too Much
If you’re in the camp of people who earn a decent income but who overspend, you’re in the toughest camp because some deep changes will need to be made in order to make financial progress - changes that might take less time than a side job but that are more mentally and spiritually difficult to accomplish and changes that you’ll have to stick with for the long run if you are to permanently improve your financial situation.
What qualifies as a decent or good income?
Now, by decent income, we don’t mean earning six figures or earning enough money that all financial irresponsibility will be wiped away just by the sheer volume of money coming in. By decent income, we mean an income that is around the median income of your community or state. There is no hard and fast rule for this, but you could consider earning anywhere from 75% of your community’s median income as a decent income that should easily allow you to put away $1000. If your household makes a median income, in the vast majority of cases you should easily be able to have $1000 put away - if you don’t seem to ever be able to do this then it means you are likely consistently overspending and living beyond your means even though your means allow you to live a reasonably comfortable life while still saving for your future and building your financial house.
Read this interesting Wikipedia article that lists the median household incomes for every state in the United States
To save more money, you must cut out unnecessary spending vigorously
If you’re making a reasonable income and you still don’t have $1000 saved, you must likely cut down on your spending. It’s very difficult to write general statements for a general audience, but it is likely that most readers who earn an income 75% of the median in their communities (or more) and are unable to put away $1000 likely have a problem with overspending and understanding the difference between necessities and luxuries.
It is very difficult to move from a lifestyle of reckless wastefulness to lifestyle of frugality and discipline. Many people try for a little while but then return to their old ways of overspending. It seems that there are underlying reasons for many people’s dysfunctional financial habits that cause them to behave in irrational and self-destructive ways. We won’t go into them here in any depth, but here are a few possible psychological issues or neuroses that potentially cause people to behave recklessly with their money (and overspending is definitely reckless financial behavior):
Now, we all feel bad about ourselves at times. We all doubt ourselves at times. We all have occasional fears of being in poverty and many people have been spoiled in certain ways. However, many of these people are still able to live financially responsible lives because they do not allow their internal psychological issues and neuroses to influence their pocketbooks, their bank accounts, and their wealth building programs - they understand that the cost is just too great and that nothing will be improved by mishandling finances. However, handling your finances properly and spending less then you make (living in financial dignity) will allow you to improve both your financial life, your personal life, your professional life, and your internal life - it will make you into a happier and stronger individual.
I know the above is easy to say but hard to do - it’s very hard to overcome yourself and stop misbehaving financially. However, if you are to ever build wealth and live a financially stable and successful life you must begin to improve your interactions with money and your ability to handle it properly. You must begin by saving your first $1000 so that you may go on to amass $10,000 and $100,000 and hopefully much more than that in time. But, you’ll never be able to amass any real and lasting wealth if you are governed by your own psychological neuroses and your momentary whims and desires to spend money on frivolous things when you don’t even have $1000 put away for yourself.
To the Details - Start Putting Away Some Money Every Week
If you put in a concentrated effort into building up your wealth, you’ll be able to save your $1000 in less than a year (and possibly in less than 3 months if you can save more).
Don’t save every month - do it every single week. If you attempt to save every month you might end up at the end of the month with not enough to put away. You will run the risk of not having the needed amount if you do it every single month. However, if you save a bit of money every week, it will be both painless and it will assure that you actually are able to put enough money away. Weekly savings will be relatively painless. Weekly saving doesn’t even require receiving a weekly income - you can be paid biweekly or once a month and still successfully save every week because you can save a very small amount every week (an amount possibly less than the cost of a single skipped restaurant meal).
Take a look at the graph below to see how long it will take you to reach $1000 by saving either $25 per week, $50 per week, $75 per week, or $100 per week. Obviously saving more is better, but even if you can put away $25 a month, you will have your $1000 in less than one year - you will transform your financial house from a desolate and empty lot to a lot with a slowly building solid foundation (a foundation on which you will continue to build upon).
Additionally, you will want to create a monthly budget. This is tough and you can expect that you’ll be way off on your budget for the first couple of months, but things should get easier if you keep at it. In creating a budget, plan on where each dollar will go to next month and do your best to stick to it. Next month, before creating another budget, evaluate the success and failures from the previous month. If you’re married or financially intertwined with a partner, make sure to create the budget together. Not both of you have to put in equal effort (some people are more financially savvy or more interested in personal finance than others) but both of you should have a seat at the table and both of you should have a say into how the budget is determined if you are to do this in a proper and overall healthy way.
If you don’t have $1000 saved up, you’re in a dangerous situation because you are exposed to both financial emergencies and one-off expenses (those expenses that are not monthly but that instead occur yearly, every few years, or once in a lifetime). Without having even a very basic $1000 rainy day fund, you are in a very precarious situation which will prevent your from building wealth - if you can’t even save $1000, how will you save $10,000 or $100,000 or build lasting wealth. This should motivate you to put in the work and make the necessary sacrifices to get to your first $1000. The good thing is that $1000 isn’t very hard to save up - as the above graph demonstrates, even putting away an extra $25 per week will get you to your $1000 in a lot less than a year.
Depending on your current situation (not earning enough vs. big spender), you will have to approach things as described above. Be aware that the problem with your current financial situation isn’t just the numbers, but it is with your heart and your soul also - never forget that who we are inside will manifest itself in our finical life also. Be courageous as you make the necessary external (getting an extra job or building a budget) and internal (understanding why you overspend if you’re in the second category) changes to start on the path to financial success and finical freedom.
Don't cry for money, because it doesn't cry for you - a Kevin O'Leary quote that touches on some deeper issues related to personal finance and money
Don't cry about money, it never cries for you. (Kevin O'Leary)
This is an excellent quote I heard on a podcast featuring famous investor and Shark Tank co-host Kevin O'Leary. O'Leary comes off a certain way on Shark Tank (a bit harsh and uncompassionate) but he is not that way at all. I've listened to a few interviews with him and he's a very intelligent, wise, and compassionate individual. I really enjoy watching him and listening to him.
This quote is in true Kevin O'Leary style for me - that's partly why I like it so much. The quote is correct, you shouldn't cry for money. The quote is also deep because there are various reasons why you shouldn't cry for money. You shouldn't cry for money because
Now, the above might seem harsh, but it's really not. Charity, assistance, compassion, and other similar things are all important in life, but in business you have to be tough and single-minded. There just isn't room for crying about money in business. It's too competitive to do that and you'll likely get no compassion from your peers who are in it to improve their own situation, not give you a shoulder to cry on.
You absolutely need an emergency fund because life is unpredictable and filled with many potential costs that might not seem apparent to you in the moment
Does anyone in the financial media or the financial press even address the question of why we need an emergency or rainy day fund? I feel that the idea of having an emergency fund is so deeply ingrained in the personal finance world that no one in personal finance discusses why you actually need an emergency fund. I don't think that's wise. If we are going to save up 3-months to 6-months in living expenses (a serious pile of cash), we better have a good reason for it. Otherwise, why bother with it? We could either spend that money on things we enjoy, give it away to someone in need, or invest it in the markets where the money has a chance of obtaining a return and growing. Why would I just have a pile of cash sitting around earning abysmally low rates or return if there isn't a solid foundation to it?
First, let's define a key term: Stochastic
Something is said to be stochastic in nature when it is randomly determined or when it's probability distribution cannot be precisely predicted.
Stochastic is sort of the same as random. So we can say, "this is a stochastic process" or "these events are stochastic."
Here are a few examples of stochastic processes or things that have stochastic components to them:
The term stochastic is heavily used in mathematics, but we don't need to give the term any more treatment than we have already. I didn't use the word "random" because I wanted to really bring home the fact that the physical and life sciences, mathematics, and even the social sciences recognize the fact that the world is random and unpredictable in many ways. For many things that have a material effect on our lives, it might be possible to understand the general distribution of things (eg. what will happen on average) but it is not possible to understand what will happen next.
The world is stochastic in nature
As stated above, the world is stochastic in many ways. The world is filled with randomness and random processes and occurrences. There's no way to tell exactly when your car will break down, when a major weather event will require a window replacement, or when your body will have some sort of medical emergency. There's not a way to predict when you'll get into a car accident, trip while walking off a curb, or when the economy will fall into a recession and you will lose your job. Hopefully, none of the above ever happens to any of us, but there's no guarantee. And so, we must be prepared as best as we can.
One way we can be prepared for possible emergencies is to be financially prepared. We can be physically prepared, mentally prepared, emotionally prepared, and spiritually prepared, but we must also strive to be financially prepared to weather life's inevitable blows to our peace and tranquility.
Now that we understand that the world is random, we can see that this randomness might cause financial emergencies - things we weren't anticipating that require the use of money.
How can we react to such financial emergencies? There are 4 main ways you can react to a financial emergency:
The 4 ways to handle an emergency, financial or otherwise
Sell your investments; liquidate a portion of your financial portfolio: One way to handle a financial emergency is to sell your investments (if you have them,). If you're invested in the stock market, for example, you can liquidate enough shares to take care of the financial emergency. That's easy, right? Wrong.
If your emergency occurs after at the end of a long bull run, then that selling your investments to pay for your financial emergency could possibly be a reasonable idea. But what if your financial emergency occurs during a recession? Isn't it more likely that a financial emergency such as losing your job will occur during a downtrend in the stock market. What if there is no recession or downtrend, but your particular portfolio is down? Selling your shares to cover the financial emergency will be very unpleasant and it will further compound the already bad situation. You'll basically be locking in the losses and losing an opportunity for a possible recovery. You want to have the opportunity to ride out the downtrend should you so desire.
The example with stocks can be extended to investments in commodities, real estate, bonds, and derivatives. You don't want to have to sell when things are down. You want the flexibility to be able to stay invested and ride things out.
Cash flow through an emergency: Not everyone has investments and even if they do, they might not have enough invested to cover a financial emergency. So, if you can't sell investments to pay for it, maybe you can just cash flow through the financial emergency - maybe you can just pay for things with the income you have coming in every month. But what if your emergency is such that your ability to earn an income is diminished or eliminated for a period of time? What if you just don't make enough to cash flow through your financial emergency?
It's pretty risky to rely on your ability to earn your way through an emergency. Say you need a car repair that costs $500? You can cash flow through that relatively easily. But what if you have a medical emergency with a high deductible? That's more difficult. What if you have a major repair that needs to be done to your house? That's pretty difficult too.
Use debt to handle an emergency: f you have no investments to sell and you can't cash flow through the financial emergency, you'll probably have to go into debt to take care of things. That's obviously a bad situation. You're again compounding the bad stuff by going into debt.
But what if you can't go into debt? What if you don't have enough on your credit cards? What if you can't get a loan? Now you're totally stuck aren't you? No money and no ability to obtain funds elsewhere will mean you'll have to resort to asking your friends and family for assistance or for loans, a pretty unattractive proposition.
So, the above three options for dealing with a rainy day are obviously not optimal. There's a fourth option: have a rainy day fund.
Use your emergency fund: It should be obvious by now that an emergency fund is the optimal way to deal with life's financial emergencies. It's better than having to sell your investments to deal with a financial emergency because the emergency fund acts as an insurance policy, protecting you from having to liquidate your investments. If you don't have investments yet (keep reading Pennies and Pounds and you will soon), then the insurance policy allows you to move forward after a financial emergency without going into debt and without stress and anxiety. It allows you to take life's financial blows and get right back up again instead of staying knocked down.
So, we see that random stuff happens and that the best way to protect yourself and your household is to have an emergency fund. An emergency fund will benefit you whether you have lots of investments or no investments at all.
But there's one other reason to have an emergency fund in place...
Not all expenses are monthly
Most people think in terms of monthly income and monthly expenses. The more sophisticated or the more financially nerdy among us (myself included) might think about yearly expenses. But there are many expenses in life that are not monthly. Expenses can happen:
Some expenses come every year
Some expenses come every few years
Some expenses com only once every 5-10 years
A handful of expense are generally considered once-in-a-lifetime
I hesitated to discuss these expenses in this piece because they aren't proper emergencies in my opinion. Emergencies are surprises that are unforeseen, but the above expenses are not unforeseen - I just wrote about them and named off a bunch of possible expenses that are not monthly. We should plan for them because we can obviously anticipate them, unlike an actual emergency such as a car accident or an injury. So, why did I include them?
I included these expenses because of my awareness of human nature. Humans aren't great at anticipating the future and planning ahead. I know that these expenses aren't proper financial emergencies and I know that we should plan for them, but I also know that we're humans and the reality is that most people will neglect to plan for them. That's just human nature. Studies show that most people fail to even have a basic emergency fund, let alone save for far-off expenses. People have a tendency to focus on the here and now and to not pay attention to what is coming down the road. Therefore, I do believe that an emergency fund can act as a certain protection against our human nature, against our seeming inability to see too far ahead. It acts as a cushion not just against life, but also as a cushion against our own minds and our own selves. If, in a moment of rationality, we can understand this about ourselves (our poor ability to plan for such expenses) we might be able to set up a very strong foundation for our financial security.
Having a rainy day fund in place just makes sense
An emergency fund is important. It just makes good sense. An emergency fund is one of the simplest and most prudent financial moves you can make. Since antiquity, the wise have understood the importance of storing something away for a rainy day.
So, make sure you have a proper emergency fund in place and do the hard work needed to get one set up quickly. You already knew that you need a rainy day fund I'm sure, but now you know why with what is probably a much deep and much more sophisticated understanding than most people have.
There is treasure to be desired and oil in the dwelling of the wise; but a foolish man spendeth it up. (Proverbs 21-20)
P.S. If we know emergencies will come and if we understand the world is stochastic in nature, do true emergencies really exist?
I couldn't help getting a bit deeper and philosophical here. Let's think about this. We figured out that life and the world are random and that random and unpredictable (stochastic) stuff will happen. So, are there really any real financial emergencies? By definition, an emergency is something unpredictable. But, although we can't exactly predict when something bad will happen because of the stochastic nature of things, we can definitely be sure that the world is random and that something might happen at any time. So, we should never be really surprised when we have a financial emergency became we should already know that it's a possibility. Regardless, we still need to have a rainy day fund set aside. So maybe there aren't really emergencies after all - maybe there are just those things that we know will happen and those things that could happen but shouldn't surprise us if they do. What do you think about this? I'm interested in your opinion on this - comment below or email
Investing vs. Speculating: Understand the difference so that you aren't taking needless and fruitless risks with your financial portfolio
What is investing? An attempt at a definitive definition.
Here's our definition for what investing is:
Investing, in the financial sense of the word, is the deployment of capital (usually money) into the purchase of shares, purchase of assets, development of commercial ventures, or other financial schemes in order to obtain a return on that deployed capital with a reasonable expectation (grounded in some sort of reasonable analysis) that the risk-adjusted or expected return is positive.
That's a long and somewhat fluffy definition, but any definition that would cover the broad range of activities that could properly be classified as investing will be somewhat fluffy. Let's break down the main elements of that definition and discuss them briefly.
...the deployment of capital...
This means you use some sort of capital (usually money) to invest. Without using or committing capital, you're not really investing. You can invest your time and energy into things, but that wouldn't qualify as financial investing. You must deploy capital in some way for your activity to properly be called investing in the financial sense of the word.
...or other financial schemes...
Investing requires the deployment of capital in a specific way. It requires that the capital be used to either purchase shares of a firm (the firm can be publicly traded or privately held), purchase assets (purchasing gold, Bitcoin, fine rugs, or fine art might qualify as asset purchases), develop commercial ventures (start a business or develop a new office building), or to pursue some other type of financial scheme. It's not easy to make an exhaustive list of the other possible financial schemes because there are many possibilities. For example, a properly documented and agreed upon private loan to an acquaintance can qualify as an investment. The purchase of various derivatives products might qualify as an investment as well. Even the purchase of rare grapes for the purpose of creating a unique wine could qualify as an investment. It's impossible to describe every possibility here, of course, but this should give you a general understanding of what I mean by a financial scheme.
...in order to obtain a return...
Investing requires that the deployment of the funds is done to obtain some financial return. If no return is expected or desired, then the deployment of capital is more like a donation or a purchase depending on the circumstances. Financial investing requires that it is done for the purposes of growing your capital base by receiving a return on the invested funds.
Investing requires that we are reasonable in our expectations of the financial return from our endeavor. If we are unreasonable or foolish, it's not investing in my opinion. A reasonable person using reasonable analysis techniques (they don't have to be complicated, just sound and reasonable) should be able to agree that a positive return is possible. This means that if unfounded, biased, or inappropriate techniques of analysis are used in order to determine what the potential return is (either expected return), it is not investing in the proper sense of the word. For example, using deeply incorrect assumptions that you know don't make sense to calculate your expected return wouldn't hold up to this standard. You wouldn't be investing here, but would instead be fooling yourself and possibly speculating. Additionally, not dong any analysis whatsoever before deploying capital would preclude the activity from being called investing. The analysis doesn't have to be complicated (although deeper analysis is likely better), but some sort of thought must be given to what is occurring if we are to call the activity investing.
...that the risk-adjusted or expected return is positive.
This point speaks to how we calculate the return. We state that the return has to be positive, but we need to know how to calculate the return. In calculating the possible return, a more sophisticated investor should adjust for risk, calculating what is called the risk-adjusted return or the expected return (these two names can generally be used interchangeably in a non-academic or unsophisticated setting). There are complicated mathematical formulae for calculating risk-adjusted numbers, but what is meant here is something more basic: the return you expect to get should from your investment should be the adjusted for risk, with less probable outcomes discounted more intensely. In other words, the return can be thought of as a weighted average of the possible returns, each return weighted by its probability of occurrence. Going further, this means that investing requires that the expected return is positive. That expected return might never occur, but at the outset (when we deploy the capital) the expected return should be positive. No rational individual would deploy capital into a financial scheme that has a negative expected return.
Speculation isn't investing; neither is work or saving!
Investing, in the financial sense of the word, can be distinguished from other uses of capital or energy. Investing is not:
Keep the definition of investing in mind to avoid foolish speculative bets or to confuse saving with investing
In conclusion, we see that investing is a specific type of deployment of capital and is distinguished from work, saving, and speculation. Keeping the definition of investing in mind could help us differentiate between investing and speculation by applying the definition in a disciplined way before we deploy our capital. Investing is a fundamental part of individual wealth-building and it allows for a society to grow and prosper, but it should be done wisely and carefully so as to make sure that foolish bets are not being taken.
Income vs. Monthly Expenses: Use your required monthly expenses to properly size your emergency fund, not your pre-tax or take-home income
Your monthly living expenses are a small portion of your monthly income and will most likely be less than your current monthly expenses due to your ability to cut down on extras and luxuries. In many cases, you can use your required monthly expenses, instead of your income, to size your emergency fund appropriately and avoid keeping excess cash in non-earning/growth parts of your financial portfolio
The common financial rule of thumb says that you should have 3 to 6 months of living expenses in your emergency fund. But what does "living expenses" actually mean? To calculate your monthly living expenses, you need to combine the amount needed to maintain your household's physical and mental-well being along with your other monthly required payments. Surprisingly, it is possible for your monthly living expenses to be quite a bit less than your normal monthly spending. Read the full article below to find out your monthly living expenses and be surprised at how reasonable they can be relative to your income.
What can be considered living expenses for the purposes of emergency fund sizing?
The typical rule of thumb is to have 3 to 6 months of living expenses stored. Although this might not be right for everyone, it is generally a good rule of thumb because it balances the costs of having a significant portion of your wealth in cash (and possibly earning so little that inflation is eating away at it) with the benefits of having a cushion of liquid funds available should a financial storm strike. Inquisitive minds will follow with the following question: What do you mean by "living expenses?" This is an excellent question because the rule of thumb states that we need to look at living expenses as opposed to income.
Living Expenses vs. Income
Living expenses are not income, but instead mean the total amount of money needed to provide for the needs (as opposed to wants) of you and your household, maintain financial security, and keep you out of financial default. In a financially healthy situation, living expenses should be substantially less than your pre-tax income and less than your post-tax income by a significant amount.
Note: If you find yourself in the unsustainable situation where your monthly living expenses exceed your monthly income, you are headed for a financial catastrophe (unless you're expecting some sort of windfall) and you should immediately attempt to remedy the situation.
How to properly calculate your monthly living expenses so that your rainy day fund can be sized accurately - not too big, and not too small
To get at your monthly living expenses number, we will first focus on the expenses required to maintain immediate life, health, physical, and mental well-being of your household:
But living expenses aren't enough - you've got to think about required monthly payments (eg. student loans, credit cards, etc.) when determining the appropriate size for your emergency fund
After we have taken care of the basic necessities, we will need to tabulate your required monthly payments in order to properly calculate your monthly living expenses. You want to stay out of financial default and maintain any sort of insurance you have in place even in a financial emergency, so it is important to account for the following:
Remember that this is a very general guide meant to be used by a variety of people. Your situation is unique and it is possible that your monthly expenses may be different by a little or a lot from what we discuss here. Things such as the number of dependents, unique family situations, unique jobs and businesses, unique medical or mental health needs, or unique lifestyles might cause your situation to be different from the typical scenarios discussed here.
If you've been using monthly income to determine the size of your emergency fund, it might be a bit too big
If you're a true financial nerd you can put numbers to each of the above items and calculate the current projected monthly living expenses for your household (it's only going to be a projection because things are random in this world and things can change at any moment). If you're not yet a hardcore financial nerd, it might be enough to just glance over the items and roughly estimate the amount needed in your mind (provided you understand that this will be a less accurate estimation of your monthly living expenses). Either way, you will likely come to the conclusion that your true monthly living expenses as needed to calculate the size of your emergency fund are less than what you currently spend on a monthly basis. This is generally true fro the following two reasons:
Although your monthly living expenses don't have to be the size of your actual monthly expenses, it is wise to remember that a conservative approach will lead to a more robust emergency fund and a more resilient financial situation for you. Err on the side of caution and don't be overly aggressive in estimating how much you can cut down during a financial emergency.
I know it's not fun reading the above - no one wants to cut out their premium bottled waters, their dinners out, movies, app and music purchases, premiums soaps and shampoos, or anything else they enjoy doing. If you're in a financial emergency, however, it is wise to buckle down for a bit until you get back on your feet. Discipline and short-term self-denial can be excellent tools for quickly recovering form a financial emergency minimally scathed. The knowledge that you can buckle down and survive with a diminished lifestyle for a short period of time is useful in figuring out how much money you'll need in your emergency fund.
In conclusion, you don't need to use your monthly income when calculating your emergency fund - your monthly living expenses are likely to be significantly less than your income. Additionally, you can cut out extras and luxurious and only focus on the necessities described above when calculating your monthly living expenses. This will allow you to get a better and more accurate picture of how much you need have in your emergency fund and you'll see that you can fill up your emergency fund much more quickly because of this. However, remember to not be overly optimistic about how much you can really live on - be realistic with a conservative outlook and you should be fine.
The most basic question that one can probably ask regarding all things finance, economics, and money is “What is money?” -- sometimes phrased in the more complex "What are the properties of money?" (usually in Economics courses). We all know that a US Dollar Bill or a Euro is considered money, but most people have never really given thought to what the properties of money are and what makes something actually money.
We can begin by going back in history before there was anything that could be considered money as we know it today. Let’s go back 10,000 and look around at what we see. In that distant and difficult world, most individuals provided everything for themselves with almost no specialization as we know it today. However, there was some trade occurring – maybe one farmer or a group of farmers would trade some cattle with another group of farmers. They would give cattle and receive some sort of fruit in return. This could have occurred for a number of reasons (eg. maybe that fruit didn’t exist readily where the farmers with the cattle lived), but that’s beyond the scope of this discussion.
Now, we just witnessed an exchange (cattle for fruit), but would we call either cattle or fruit money? No, we wouldn’t. We may not be sure why, but we intuitively understand that neither cattle nor fruit nor any animal can properly be considered money as we know it today. To be properly classified as money, an item (or set of items) must possess the properties described below.
Money serves as a unit of account
We should be able to keep count with money. This is possible with things such as grain or salt because we can weigh them. It is surely possible with US Dollars or other paper or metal currency because they are inherently designed to be a unit of account. US Dollars exist in three forms, either in paper, in metal coins (fraction of US Dollars), or in digital form, all of which lend to easy counting. Counting might be possible with animals, but it’s much more difficult to do it accurately and in a sophisticated fashion (eg. large cow vs. small cow – are they the same?).
Money is durable (durability)
Money must be sufficiently durable to act as (1) a store of value and (2) a means of exchange, two crucial sub-properties of money. Money must not perish quickly and must maintain its shape, structure, and form for sufficiently long periods of time. US Dollar Bills are pretty durable while a coin is obviously even more durable. A fruit, such as a head of cabbage or a banana is exceedingly fragile because each will perish quickly and cease to be recognizable or useful. People are willing to accept an item for payment because they are confident that they will be able to use that item at a later time for a purchase of their own. If an item is fragile, then it will be useless as a store of value or a means of exchange
Money is divisible (divisibility)
Money must be able to be divided. US Dollars, both in paper, coin, and digital form can be divided into increments as small as pennies. Salt piles and grain piles can be divided by weight. Gold, silver, and other precious metals can also be divided by weight as well. An animal is very hard if not impossible to divide. If you only have one cattle but want to purchase something that is only worth a quarter of a cattle, you’re in a bit of a dilemma.
Money is interchangeable (fungibility)
o be fungible is to possess the property of mutual interchangeability. In simple terms, an item is fungible if you don’t care about the quality of the item. For example, whether you have a very used US Dollar Bill or a brand new one, you still have a US Dollar Bill and should be indifferent among the two (accept for aesthetic purposes). As long as the purity is the same, all gold or silver in the world is exactly the same. Things such as diamonds, however, are not fungible because diamonds come in different clarities. One diamond cannot perfectly replace another like one Silver Eagle can perfectly replace another Silver Eagle. Animals are also not fungible because each is unique in terms of gender, size, health, or even disposition.
Money is hard to fake (non-counterfeitability)
Good money should possess properties so that you can easily tell whether it’s real or whether you have been presented with a fake or counterfeit. US Dollars are very difficult to counterfeit although it’s obviously possible to make fake dollars of sufficient quality to fool an unsuspecting individual. Gold and silver are difficult or impossible to counterfeit as long as proper tests are done by the recipient to make sure that the chemical makeup of the item is actually that of gold or silver. Art might be counterfeited moer easily and it is much costlier to check it to make sure it is original. Currency that is poorly designed or that doesn’t contain any anticounterfeit measures within it will be poor money because it will be very difficult to tell if it is real or fake.
Learning about the fundamentals of money and currency unlocks a deeper understanding of many other financial topics
These are the main properties of money, although some texts and economists might label them differently or add or remove a property. What we can take away here is a fundamental understanding of what money is and what it isn’t. This very basic understanding might not prove useful right away, but such an underlying knowledge will help to inform you as you learn more about money, finance, investing, wealth building, and other topics for your personal and financial development. The development of money is a crucial part of why humanity has progressed so far (without money modern trade would be nearly impossible) and this post has barely scratched the surface of what money is, its history, and it’s central role in humanity rise from darkness into prosperity.
Online savings accounts offer the benefits of higher interest and delayed access - they may prove to be key tools for a successful financial life
Online savings accounts have been around for about a decade and provide a solid alternative to traditional savings accounts. You should have a 3 to 6 month emergency fund at minimum and you need to keep that emergency fund liquid and readily accessible. Traditionally, such an emergency fund would be placed in a bank savings account. Today, however, excellent alternatives exist: an online savings accounts. There are 2 primary benefits to having and using an online savings account for your emergency fund or for whatever else you're saving up for.
Online savings accounts generally pay a higher rate of interest, compared to traditional brick and mortar savings accounts
As of this writing, interest rates are at historic lows. The Fed might raise rates soon, but it will likely be years before rates reach historically normal levels. Big banks today offer rates that are almost insulting. Some banks offer rates as low as 0.01% in the United States and in Europe negative interest rates exist in places.
Although the purpose of your emergency fund or your liquid savings (eg. down payment savings or imminent college payments) isn't to make a large return, you would likely prefer something better if it was possible with the same amount of risk. Online savings accounts don't have the expenses traditional bank accounts have because no branch network is needed. This can be seen in the graphic above and should make complete sense. This savings is passed on to the saver in most cases as a way of attracting people to use an online savings account instead of a traditional brick and mortar bank.
If rates were the same regardless, most would prefer a brick and mortar bank due to the added ability to walk in if needed. Even if you do most of your banking online, this would add some sort of convenience and given equal interest rates, you would likely choose the brick and mortar option. The rates aren't equal, however, because online banks offer much higher rates than traditional brick and mortar banks.
Online savings accounts delay access to your money, helping you determine if it's really a need or a want
We've stated that an emergency fund should be easily accessible and that liquid savings that will be used soon should also be very easily accessible and not invested in the various markets (eg. equities, bond, real estate, etc.). Keeping this in mind, online savings accounts create a slight but beneficial barrier between you and your money by requiring (usually) a transfer into your traditional checking account at a brick and mortar branch before a large purchase or withdrawal can be made. This is a very slight barrier that doesn’t stand in the way of allowing quick accessibility to your liquid funds.
If there is an emergency, a two-day delay will likely cause any problems because you will likely have some money in your checking account to withdraw, you will have credit cards to use if needed, or two days will be enough time to get your hands on your funds. Most financial emergencies are not of the nature that require absolute immediate obtainment of funds (although some are – so you should probably keep some cash in your checking account and some cash in your wallet and at home for those time sensitive emergencies).
Although I wouldn’t keep all of my liquid cash in an online savings account, I would keep a majority of it there. Always be wise and prudent with your money and make sure the online savings account is with a reputable firm and that it is FDIC insured. Additionally, shop around for rates and online experience. It’s the 21st century and your online bank should have a high quality website and mobile app experience.
Having a stash of cash is critical for a peaceful life. Cash is like the grease for life. Grease helps a machine operate smoothly. Cash helps your life operate smoothly.
Need to make a move? Need to make a quick trip? Want to seize a new opportunity? Unexpected expense? Having a nice pile of cash will allow you to operate smoothly and more effectively, even if it's not the only thing that's important for effectiveness.
That's why I think you should have more than just the requisite 3 to 6 month emergency fund. You obviously shouldn't forgo real investment opportunities that will grow your wealth by hoarding cash, but you should make sure you keep some powder dry for those unexpected events, both good and bad.
Cash isn't the only thing that allows for greater financial flexibility, however. Keeping a proper emergency fund -- most likely with the majority in a savings account instead of in cash -- will also protect you from financial suffering during difficult times.
And now, given the rise of cyrptocurrencies and crypto assets to quasi-mainstream financial assets, we're dedicated to providing quality, relevant, and interesting material on cryptocurrencies and cryptoassets. Articles on Bitcoin, Ethereum, Ripple, Cardano, and many more cryptocurrencies and cryptoassets can be found on Pennies and Pounds - all that in addition to a plethora of information on what cryptoassets are, how the entire crypto industry came to be, blockchain/immutable ledger technology, mining, proof of work, proof of stake, and how to prudently invest in crypto if you are so inclined (based on your risk tolerance and ability to withstand the volatility that will come with a crypto portfolio).