The fundamental principles of investing

What is the difference between rich and poor man? Is it salary? It is unlikely. Except for 1% of the world’s population, receiving a glut of wealth by inheritance, each of us gets its own first dollar (ruble, euro, yuan) in the form of wages. Moreover, it turns into wealth for somebody but for some people it remains a wage in the amount of 1 USD, 2 USD, 100 or 10 000 USD – but it is not wealth, it is a salary and as once you lose your job you will lose it. A poor person (or low profit corporation) is interested in – “how to earn”, that is how to find more work. It means that he wants to work more efficiently for the money and by the money. This is commendable. But at a certain stage in front of every reasonable man a question should arise: “How to make money work for me to get profit when I will not be able work so much?” There is only one answer – to invest. Exactly the question – “Where to invest?” every rich person asks even if he has not more than 100 USD in his pocket. This question itself is very valuable.

In order to answer this sacramental question, you or your company can appeal to the professionals or try to deal with it on your own. But you should know that only systematic, thoughtful and long-term investment activity will have a positive effect. So if you have not got the time and knowledge for self- investments, you can confide to the professionals

Thus everybody knows that “money must work”. What does it mean, actually? Why having securely hidden money “under the pillow” you start spending it immediately and intensively even without opening the “stash”. The inflation does not sleep! We will not dwell on the current crisis – we take a historical perspective. For the last 100 years the average inflation rate of the USD has been 3%. Keeping money “under the pillow” you lose 3 USD of 100 USD annually. Or 10-15 rubles from 100 rubles of the “stash”…But that is not all. Monetary interest calculations have an effect of compound interest. Thus, in two years the time will “eat” not 6 dollars of your 100, but 6, 09 $. And in 10 years – 34, 4 $.

Compensation of these losses is possible only with the help of accumulated funds investment. Moreover, having invested money as a common bank deposit, you are forcing the effect of compound interest not to waste your money but multiply it (deposit capitalization).

How much money should a man have to become an investor? In order to answer the question it is necessary to understand that the basis of modern economy is credit. Exactly the credit economy has provided an opportunity for people of rapid enrichment by providing “leverage”. Having a few hundred dollars and a stable job, a man gains an opportunity to buy not only consumer goods (which is rather unreasonable), but also the assets making profit (which is much more reasonable). So if you buy real estate on credit with payment, for instance, 16% of annual income to the bank, you will rent it at a rate of 13%, and property value will rise by 15%, then your income will be 12%.

All marginal (with the leverage) operations at the financial and stock markets are based on credit. It should be mentioned that the maximum effect with a reasonable risk makes the use of own funds in relation to loans from 1:10 to 1:5. In other words, to the 10-20% of own funds 90-80% of loans are involved. For example, the use of leverage 1:5 allows from 5% of annual income to make 25% (5%*5).

Whether you will be engaged in investment of your funds yourself or confide it to the professionals, you need to make your own financial plan. Generally speaking, financial plan is the balance between assets and liabilities, familiar to every accountant. However, the classical company’s balance of assets and liabilities has a significant defect which misleads the company’s founders who often ask their financiers: “If we have a large profit on paper, where is the money?” Is not it a familiar question to anyone who in one way or another engaged in business?

So we provide an outline of assets and liabilities balance, which despite its simplicity allows everyone – from housewives to president of corporation or even the country, to understand where the money is. The point is that assets in terms of classical accounting of the company are all that it owns, and liabilities – all the liabilities and capital. Everything is clear with the liabilities. However, this classification of assets has a dramatic defect – they can be extremely huge (buildings, constructions, land, equipment and etc.) but do not bring any income. Moreover, all assets require the maintenance costs. All that does not have income – have expenses. In order an asset is a true asset, it must produce profits greater than expenses. Otherwise you will be working not only on your liabilities which is inevitable (for example, to repay a bank loan), but also on your assets (such as an apartment that you bought for this loan but that is empty and you pay the utilities!).

The only way to understand the situation is the division of assets by means of: the source of what they are – the income or expenses?

The fewer liabilities and more assets in your balance, the richer you are. It is not easy for company to change attitudes in accounting, but if it enters the basis of assets division in management accounting on the basis described above, its leadership will eventually be able to see where the money is. Private individuals, less formalized in their actions, can easily apply this method of accounting, and the financial effect will be noticeable.