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Sharing Our Thoughts

Financial Literacy: A Must Learn Skill

2/10/2020

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I was born in the 1980’s in a coastal town in the south of Italy and life was great in that decade. Great, mostly for the Baby Boomers and the Silent Generation. If your parents were high school teachers in their forties, they could afford a house or two paid cash. A family of medical doctors could afford a new FIAT every month and still put food on the table. If you were 60 years old, you could retire with a lavish pension enjoying: the beach, the sun, the wine and the food. So basically my generation, the Millennial, grew up with that stereotype of life in mind. Graduate, get a decent job, make a family and enjoy life. Thirty years later and it is hard to debate that the Western World is a totally different place nowadays.

I am a hard coded engineer and by nature, we (engineers) think of the worst while hope of the best. During the 2008 financial crisis, I had few recurring scary thoughts. Jobs opportunities are limited and do not pay much, how am I gona afford the same lifestyle as my parents did? People live longer, there are less newborns, governments are on the hedge of bankruptcy, who will pay my pension?

It was and it is, still today, an uncertain time for generations like the Millenials and Gen Z. Being sad and nagging definitely it is not gona help. Like Caecus used to say: Homo faber suae quisque fortunae ("Every man is the artifex of his destiny"). If we really want, we can take control of our future and mold it the way we want it to be. Actions must be taken because life is not like the book of Rhonda Byrne (“The Secret”, the law of attraction stuff).

Actions, what can we do?

Back again in 2008, I remember I received a notification from my bank stating to cash in some money that was left in some kind of financial instrument by my mom 20 years earlier. I was happy and at the same time surprise. Why surprised? The sum received was 10 to 15 times what was invested 20 years earlier. I did not give much importance and thoughts to this until five years ago when I became passionate by finance.

Compounding: how beautiful this concept is. 10 to 15 times the return of investment in 20 years is equivalent to annualized gains of 12 to 15%. Essentially, not too far from what it can be made by investing in a passive index fund tracking the S&P500 (9.8% in the last 90 years or a total return of 451,000%).

I wish I would have learned this basic skill in my younger age together with everything else I have learned at school.

Why?

Let’s assumed that my parents were so generous to donate me $1,000 at my birth and invest them in the S&P500. By the age of 15, my account would have been worth $4,065. With a great school system, teaching students about passive investments and compounding (i.e. the Financial Literacy class that, in my opinion, everybody should be thought), I would have decided to take $20 per month from my allowance or afterschool job, and put it in the saving account that my parents created 15 years earlier. By the age of 25, my account would be worth $14,513. I am 25 with a decent job and now I can save $100 per month. Guess what, at the age of 33, the account would have been worth $49,180. I get a better job with higher salary and cutting few expenses (weekends, eating out,…), I can save $300/month until the age of 65. By that time, my account would be worth $1,583,586.

Impressive, is not it? Compounding, patience (lot of it), investing in a passive index, saving money here and there, can do the trick.

Think of Warren Buffet. At 14, he had $5,000 and at 83, he had $83.58 billion. If you do the math, this is equivalent to an annualized return of 26.6%. It is impressive and well above the S&P500 but not impossible to realized similar annualized returns.

What if we start later in life?

Compounding can still do the trick. Of course this is not enough because we need to invest in something better than a passive index like the S&P500. Smartly rotating uncorrelated assets (equities, bonds and gold) can do the trick. An annualized 20% is within reach without taking excessive risks. The result? Investing $25,000 at the age of 35 and adding $300 per month then by the age of 65, the account should be worth $10,185,581. Not too bad, is not it?

Bottom line: it does not matter when you were born or how uncertain the future might look like, financial literacy can help you in making each sweat earned $ to work for you, helping building a solid future. Patience is the key.
 
 
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