In discussions, blogs, and personal finance books, it is often heard “cash is king.” While often taken out of context, I will be explaining why this is such terrible advice.
Saving money is not only a bad idea but a guaranteed way to lose all your money over a period of time. Let me explain.
For example, I save £1000 in my bank account in 2010. In 2020, I may still have a notional value of £100, but due to the average rise inflation of 2.5% per year, my £1000 will be worth less than £800. Had I invested that money, I could have, in a best-case scenario, doubled from £1000 to £2000 and in a worst-case scenario, at the very least beat yearly inflation!
It is very clear saving money is a game for the financially illiterate and poor. A loser’s game.
Now you may ask what do I do with my money if I’m not saving it? Spend it all? Definitely not.
Now when I say invest, I am not talking about speculating the stock price of a stock you think is going to rise. I am talking about an almost guaranteed ROI asset. You will find numerous arguments for dividend stock investing, real estate investing, or even a combination of the two. But here, for the purposes of beating inflation and the highest possibility of a guaranteed ROI, I am advocating one investment vehicle only. Keep it Simple Stupid! I argue that you will find nothing safer, and thanks to the magical wonders of compound interest arguably nothing more profitable than… wait for it……INDEX FUNDS.
An index fund will allow you to invest/track and entire stock market providing perfect diversification. The stock market year by year, on average, rises 7% per year, so investing your money through this vehicle is an almost guaranteed way to beat inflation and compound your cash over long periods of time.
Now you may not believe me, but it would be dubious to not believe the greatest investor of all time, Warren Buffet on index funds:
“A low-cost index fund is the most sensible equity investment for the great majority of investors […] By periodically investing in an index fund, the know-nothing investor can actually out-perform most investment professionals.”
Now let’s take a practical example of how investing as little £500 a month in a low-cost index fund will play out over a 10-year period at an average of 7% interest per year.
With a total cash investment of £96000 over 15 years, you would have earned a total interest of £83,041.30. Definitely beating inflation and any other risky investment you may have made. Now I guess a balance of £179,041 is a life-changing amount to a majority of people. But just wait. Within the magic of compound interest, look what happens after year 15, and you will see why Albert Einstein said:
“Compound Interest is the eighth wonder of the world, he who understands it earns it. He who doesn’t pay it.”
At first glance, you may think, wait a second, this is a miscalculation, but no. The interest begins too far outweigh the initial balance even eventually doubling the initial balance in interest alone. Needless to say, this clearly demonstrates the power of investing combined with compound interest.
Invest Early. Invest Often. Invest Consistently.