The financial decisions you make in your 20’s are arguably more important than any other time in your life. Having graduated from the 20’s club a couple of years ago I am grateful for the things I learned in my 20’s, I have made some wise decisions, but also wish I knew more and did things better.
The financial habits and structures you are installing throughout your 20’s can greatly determine your financial success in decades to come.
You have time on your side and the most important decision you can make is to start now.
I want to illustrate that with the following example:
Twin sisters, Sarah and Kate invested as follows:
Sarah (Investor 1) began investing R1 000 a month into a balanced fund as she turned 20. She contributed monthly for 5 years, a total of 60 contributions or R60 000, at which stage he stopped contributing. However she left her money invested for another 10 years.
Her sister Kate (Investor 2) only began contributing R1 000 per month into the same balanced fund at the age of 25. She continued to do so for 10 years, a total of 120 contributions or R120 000, double the capital contribution by Sarah
Below you can see that although Sarah (investor 1) contributed 50% less than Kate(investor 2), her investment is worth a significant 40% more. On top of this, less than a quarter of the final amount has come from his pocket. The rest is from investment returns and compound interest.
This goes to show that the most potent combination for wealth creation is time and the power of compounding. Whether you’re saving early and often, systematically adding to your investment portfolio or staying the course in times of uncertainty, time has the power to turn small habits into incredible results.
With that in mind, here are the most important things you should do in your 20s:
- Set Goals
Before investing, it’s important to understand what you want to do with the wealth you create. Creating a reverse budget is a good framework for setting goals and establishing a plan to meet them.
Savings for short-term goals of less than five years should be kept in cash rather than invested in the stock market. Market volatility is inevitable – it’s the cost of higher expected returns in stocks versus bonds or cash – so it’s unwise to accept the risk of market losses for your short-term goals because they have less time (and sometimes no time) to recover.
- Create a Budget.
In order to reach you financial goal, you would need to have money to invest. By having a budget, you will not only be aware of where your money is going, but you will also put the power and control back into your own hands. Make use of the 50/20/30 Principle where:
50% off your nett income should go towards your MUST HAVE expenses
20% should go towards INVESTING before the next
30% can go towards your NICE TO HAVES.
- Make It Automatic
Finances have a way of getting increasingly complicated as you age. Putting your savings, bills and investments on autopilot can simplify things.
After you have set your goals and created a budget, automate your monthly investment by starting debit orders for each account. This way you won’t be tempted to skip a month or two of your contributions and you can focus on other tasks at hand.
- Protect your Income.
Your ability to earn income is your biggest asset. You are young, you have studied hard to complete school or earn your degree and you have decades ahead of you. Protect yourself and your income by putting risk insurance in place.
- Stick to the plan.
There will be lots of temptations along the way. Friends and media will tempt you to invest in ‘get rich quick schemes’ and your discipline to resist FOMO will be tested. Stick to you plan and you will set yourself up for success.
Start making these changes now. The good decisions you make early in life will have more time to compound in your favour and set you on the path for financial success.
Geo Botha B.Com Honours, CFP ®