Twenty Steps to Seven Figures

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Twenty Steps to Seven Figures

• Barbara ONeill, Ph.D., CFP
• Rutgers Cooperative Extension

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Class Objective
To discuss 20 research-based strategies to
accumulate wealth over time

• 10 investment steps
• 10 lifestyle and financial planning steps

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Millionaires Are In The News!

• Game shows
• Best-selling books
• Millionaires are rare of U.S. population of over
  274 million, 4.6 million households have a net
  worth of at least 1 million (1998)
• Median U.S.household net worth is 71,600.

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Wealth Accumulation Takes Time

• Average age of millionaires late 50s to 60
• Compound interest over time, especially in
  tax-deferred or tax-exempt investments
• One study millionaires have been investing for
  30 years
• First million is the hardest (Rule of 72)

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Recent Publications

• Eight Steps to Seven Figures (Carlson)
• Getting Rich in America (Lee McKenzie)
• Rags to Riches (Liberman Lavine)
• The Millionairess Across the Street (Flores
  Sander)
• The Millionaire Mind (Stanley)
• The Millionaire Next Door (Stanley Danko)

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Step1 Set Measurable Financial Goals

• Without goals, investing is hard to sustain
• Have a why to invest (whatever it is)
• A goal should be personally meaningful
• Break a big goal into mini goals
• 1 million by age 65
• 500,000 by age 57
• 250,000 by age 50

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Make Your Goals SMART

• Specific who, what, where,when, why?
• Measurable (e.g., progress benchmarks)
• Attainable (within your ability to achieve)
• Realistic (goals that fit lifestyle)
• Tangible (visualization motivation)

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Step 2 Start Paying Yourself First - Starting
Today

• Time is an investors biggest ally
• Compound interest is awesome
• To accumulate 1 million
• 20 year olds must invest 67/month
• 30 year olds must invest 202/month
• 40 year olds must invest 629/month
• 50 year olds must invest 2,180/month
• For every decade an investor delays, the required
  investment triples

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The Most Important Dollar You Invest is the One
Invested Today

• There are plenty of low-cost investments
• Employer payroll deduction plans
• DRIPs (stock purchases)
• Low-minimum mutual funds
• Automateyour investments
• The first million is the hardest (Rule of 72)

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Step 3 Diversify Your Investment Portfolio

• Diversification reduces- but does not eliminate-
  investment risk
• Select different asset classes and different
  investments within each class (e.g., stock)
• Mutual funds and unit investment trusts (UITs)
  are already diversified
• Keep investing up or down markets

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Time Diversification

• The risk of volatility (i.e., ups downs) in
  investment value is reduced as an investors
  holding period increases
• Dont worry about day-to-day or month-to-month
  (or even year-to-year) fluctuations
• Dont panic and sell during market downturns

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Step 4 Invest Regularly by Dollar-Cost Averaging

• Takes the emotion out of investing forces you to
  buy during market dips
• Make regular deposits at regular intervals,
  regardless of market levels
• Buy more shares when market is down
• Buy fewer shares when market is high
• Invest what you can afford (e.g., 100 per month)

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More Dollar-Cost Averaging Tips

• Make deposits at beginning of the month rather
  than end adds up over time
• DCA with low-expense mutual funds (e.g., index
  funds) and solid blue-chip stocks
• Avoid speculative stocks
• Use automated investment programs
• Modify occasionally, as needed

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Step 5 Buy Hold Stock For the Long Term

• Carlson survey 75 of millionaires surveyed held
  stock for more than 5 years
• Frequent trading is expensive commissions,
  short-term capital gains reinvestment risk
• There arent that many good ideas financial
  markets are efficient (i.e., stock prices reflect
  company value)

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Market Timing Increases Investment Risk

• The biggest risk of investing is being out of the
  market when it goes up
• Example DJIA increased 24 in just three months
  in late 1998 (many investors missed this because
  they panicked and sold out)
• One study SP 500 index,1991-1998 21 return
• Miss 10 best trading days only a 16 return
• Missing 5 on 10,000 investment (compounded
  monthly) 195,266 penalty after 17 years

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Reasons to Stay Invested

• Very difficult to be right twice (getting out of
  stocks and getting back in)
• You have to be in the market when bursts (big
  price increases) occur
• Market declines provide buying opportunity
• Historically, stock market bounces back
  reasonably quickly

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Step 6 Take Prudent Investment Risks

• Prudent risks are risks that have real potential
  to increase your return (e.g., quality blue-chip
  stocks)
• Biggest risk avoiding risk (100 cash and/or
  bonds)
• Low-maintenance strategy Buy the market with
  index funds or exchange traded funds (e.g.,
  i-shares)

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Other Prudent Investing Strategies

• Add to investments consistently
• Dont get greedy for unrealistic returns
• Avoid the urge to check daily returns
• Use discount or online brokerage firms and
  no-load stocks and mutual funds
• Start investing today dont wait for market to
  drop

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Step 7 Choose Quality Stocks

• Better to get steady12 to 15 average return per
  year than very volatile returns
• 12 -15 returns double money every 5 to 6 years
  (Rule of 72)
• Singles sometimes produce home runs
• Quality companies dominate their industries and
  have consistent profits

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Millionaire Maker Stocks (Carlson Research)

• Lucent Technologies
• General Electric
• Merck
• Intel
• Microsoft
• Cisco Systems
• Dell Computer
• Exxon Mobil
• Eli Lilly
• IBM

• America Online
• Pfizer
• ATT
• Home Depot
• Walgreen
• Amgen
• BellSouth
• Wal-Mart
• AFLAC
• American Express

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Step 8 Minimize Investment Expenses

• Use DRIPs and no-load stocks (DPPs) to bypass
  brokers (watch their fees)
• About 1,100 companies allow investors to buy
  stock directly (28 of 30 in DJIA)
• Maximize payroll deductions (no cost)
• Use no-load mutual funds without an up-front
  sales fee
• Avoid mutual funds with 12(b)1 fees
• Consider low-cost index funds

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Costs Matter!

• 50,000 in an average stock mutual fund with a
  1.5 expense ratio 50,000 x .015 750 (annual
  expenses)
• 50,000 in an index mutual fund with a .20
  expense ratio 50,000 x .0020 100 (annual
  expenses)
• Over time, the difference is magnified

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Step 9 Take Advantage of Tax Breaks

• Research millionaires maximize tax breaks,
  including
• Long-term capital gains rate on stocks held for
  12 months or more
• 401(k) 403(b) plan contributions with pretax
  dollars (no federal tax) 2,000 contribution
  actually costs 1,440 (28 marginal tax bracket
  investor)
• Roth IRAs

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Tax Deferral Pays!

• Tax-deferred money continues to grow
• The longer you defer paying tax,the more you
  accumulate
• Money contributed to a Roth IRA grows
  tax-deferred and is withdrawn tax free
• Roths no mandatory withdrawals at age 70 1/2 and
  can contribute if earn income
• Roths can leave tax-free income to heirs
  (estate-planning tool)

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Step 10 Invest Cash Windfalls

• Income tax refunds
• Retroactive pay
• Bonuses
• Prizes, awards, gambling proceeds
• Inheritances gifts
• Divorce insurance settlements
• Other

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Keep Lump Sum Distributions Tax-Deferred

• Tax data only 34 of workers with a lump sum
  distribution rolled it over into another
  tax-deferred account
• Small lump sums more likely to be spent
• Small amounts add up
• 5,000 distribution at ages 25, 35, 45, 55
• 8 annual return
• Worker would have almost 200,000 at age 65 if
  distributions were invested

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Step 11 Live Below Your Means and Invest the
Difference

• Spend less than you earn
• Distinguish needs from wants
• Step Down Principle (i.e., different spending
  levels for the same item)
• Buy cars new-used
• Toys trinkets versus lost wealth
• Automate investments so money is not spent

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Step 12 Develop a Spending Plan

• Track income and expenses for 1 or more months
• List fixed, variable, periodic expenses
• Calculate savings required to fund goals
• Create a spending plan

Expenses Savings Income
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Step 13 Work Hard

• Organize your life with the future in mind
• Set realistic life goals and steps to achieve
  them
• Expect seasons of hard work
• Follow your passions
• Take calculated risks
• Search out opportunities network

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Step 14 Increase Human Capital

• Education and income strongly related
• Greatest return on early years of education
• Learn skills that are in demand by employers
• Networking expands opportunities
• Never consider your education finished

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Step 15 Grow Your Net Worth

• Increase assets
• Reduce debts
• Aim for a 5 annual increase (e.g., 200,000 net
  worth x .05 10,000)
• 10 (or more) is even better
• Calculate net worth annually to measure progress

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Step 16 Practice Stability

• Interruptions wealth loss (rob portfolio of
  time and compound interest)
• Divorce
• Job hopping (e.g., reduced pension vesting,
  401(k) delays, lump sums)
• Frequent moves
• Carlson research millionaire investors had three
  different jobs during career

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Step 17 Take Care of Yourself

• Health care costs are another financial shock
• Exercise, eat right, get enough rest,and reduce
  stress
• Healthy people are more productive, likely to get
  promoted, and earn more
• Make sure health insurance is adequate
• Longer life better return on (SS)

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Step 18 Believe in Yourself

• Develop qualities like discipline focus
• Identify address investing obstacles
• Maintain a positive attitude
• Shed common myths
• You need a lot of money to invest
• Investing is complicated
• You can get rich day trading
• Its too late to start

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Step 19 Pass the Wealth Test

• Multiply age by realized pre-tax income
  (excluding inheritances)
• Divide by 10
• Result is what net worth should be for age and
  income
• Example age 35 with 40,000 income
• 35 x 40,000 1,400,000
• 1,400,000/10 140,000 minimum net worth

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Step 20 Be Patient

• Ordinary people do become millionaires
• Accumulating 1 million could take several
  decades
• Like the Who Wants To Be a Millionaire? game
  show, greatest gains are at the end (e.g.,
  250,000 to 500,000 to 1,000,000)
• Get started today compound interest is not
  retroactive!