The most brilliant investment strategy in the world will not make up for a lack of putting money aside. How much you save versus how much you spend is the most important driver of whether you will succeed in having money for your future financial goals.
Let’s look at an example. Say you’re saving $250 per month for the next 30 years. If your investments return 8 percent per year, you’ll end up with about $373,000 at the end of 30 years. If you have decided you need at least $400,000, maybe that’s not enough for your future goals.
What’s the best way to get to $400,000 by the end of 30 years? You could try to increase your returns to about 8.4 percent per year, but that’s going to be really hard, even impossible. Remember that you don’t really have control over what your investments do, although you could potentially choose to take on more risk.
The alternative is that you could save an extra $25 per month. With an 8 percent return, saving $275 per month would get you to almost $410,000 at the end of 30 years. This approach is much more effective than trying to squeeze out extra returns. More importantly, it is more within your control.
I recently changed my cell phone service and saved $65 a month. I could change my cable and save another $50. I bring my own trash to the dump and save $40 a month. There are simple ways to save an extra $25 per month. There is no simple way to juice returns by an extra 0.4 percent.
The best way to save more is through what financial planners euphemistically call “cash flow management.” In other words, increase how much you make, or decrease how much you spend.
Although most people are averse to the notion of a strict budget, tracking your income and expenses through a program such as Quicken, Mint.com, or a similar program can be extremely helpful in realizing where you can save extra money. It can be eye opening to keep track of where you actually spend your money. The bottom line is that you can’t invest what you spend.