1. CAPITAL GAINS OR CASH FLOW?
Investing should make me richer every month, not poorer. It should put money in your pocket every month, not take money out. Many financial services salespeople convince financially naive people that it is smart to pay money to invest. A financial education will help you to avoid becoming a victim of the sales pitch.
Read: 3 Investing Styles for Stocks
When investing in stocks, there are two ways to profit. The two primary approaches are to seek capital gains (selling our stocks at a higher price than we paid for them) and to generate cash flow (creating new money). Seeking cash flow is the Rich Dad way because it allows you to control the situation better than just buying stocks.
Capital gains occur, for example, when you buy a share of stock for $20. The stock price goes to $30, and you sell it. Your profit is called capital gains. Any time you sell an asset or investment and make money, your profit is capital gains. Of course, there are also capital losses. This occurs when you lose money on the sale.
Cash flow, however, is realized when you purchase an investment and hold on to it, and every month, quarter, or year that investment returns money to you. Cash flow investors, unlike capital gains investors, typically do not want to sell their investments because they want to keep collecting the regular income thru cash flow.
If you purchase a stock that pays a dividend, then, as long as you own that stock, it will generate money to you in the form of a dividend. That is called cash flow. To cash flow in real estate, you could purchase a single-family house and, instead of fixing it up and selling it, you rent it out. Every month you collect the rent and pay the expenses, including the mortgage. If you bought it at a good price and manage the property well, you will receive a profit or positive cash flow.
- It is resilient from market swings and market chaos.
- It brings money into your pocket on a regular basis.
- It is generally taxed at a lower rate.
People believe this is because they think stocks are simply buying low and selling high. An educated stock investor knows how to cash flow with the stock market, not just invest for capital gains.
How to Tell the Differences Between a Professional and Amateur Stock Investor
2. NEED AN EXIT STRATEGY?
When most people think about investments, they tend to think about buying and holding for the long-term. In fact, it’s what most of us have been taught our whole life. But what if you had the ability to easily turn that investment into cash if needed?
There are three characteristics about the stock market that make it such a great vehicle to build wealth. But one characteristic, which is not taken advantage of by most investors, is its liquidity.
Read: Have You Considered Paper Assets?
Liquidity is the ease with which an asset can be converted to cash. By comparison, right now there are many people who would love to sell their real estate. But there’s just one problem—it’s hard to sell because financing is hard to get right now. And even if you can find a buyer it takes months to get the deal done. Real estate is not liquid.
Liquidity is also important because you can always have a beneficial exit strategy. That’s one thing you will love about the stock market—it offers investors good liquidity. If one of your stocks begins to go down, the market liquidity allows you to sell it quickly before you have sustained a damaging loss. It also allows you to go from a good investment to a better investment in the blink of an eye.
Another advantage of liquidity is that a person doesn’t need to have tremendous sales and negotiation skills. Stocks allow you to make sales without being a salesman. That’s a huge advantage to a lot of people. Just click a button and...sold! You don’t even need to be charming.
The last thing to consider when investing in stocks that liquidity can bring an increase in volatility. The ability to buy and sell quickly can cause huge swings in supply and demand. Depending on your investing goals, this can either be a huge negative or a huge positive.
Why Paper Assets May (Or May Not) Be Best For You
3. ARE YOU GAMBLING OR INVESTING?
Gambling away your retirement funds in a government-sponsored game of chance that you have little hope of winning, sounds crazy, right? So then why do so many people still do it? This kind of investing is like playing the lottery, and how sensible is it to play the lottery when the chance of losing is so high?
Read: Why 401(K)S And Mutual Funds Are The Path To Retirement Disaster
Investments in 401(k)s and IRAs involve putting money into an investment vehicle which investors have little control. And since most people end up choosing mutual funds as their primary investment vehicle within these plans, playing the lottery would be a better way to go.
But isn't there a better chance of making money in a mutual fund than there is in the lottery? Hardly. There may be less of a chance of losing all the money you put into a mutual fund than there is of losing all the money you put into lottery tickets, but you're never going to win big in a mutual fund.
In fact, mutual funds are designed to minimize your returns by creating a "balanced portfolio." If they could minimize the risk of the market itself, that might be OK. But the problem is that nobody can minimize the risk of the market without sophisticated hedge strategies that aren't typically used in mutual funds.
Whether you turn your money over to a financial advisor or control your own investments, there will always be risks involved. However, you increase your investment risk when you have no financial education, and don’t understand what you are investing in. Or more so, depending on others to control your investments and letting them keep the majority of the returns.
How Can You Know If You Are Secure For Retirement?
Your investments are “safer” when you get a financial education. When you are knowledgeable about your investments you get all of the returns and become your own financial advisor.
