On the Money Trail
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How to Make Sure You Don't End Up Broke
by Al Jacobs, author of Nobody's Fool
May 2007

A fundamental question that every financially concerned individual must face is this: Will my money expire before I do?  It’s not a trivial matter, for the prospect of arriving at advanced age with no assets was never more accurately expressed than by character Lamont Sanford in the television series “Sanford and Son,” when he exclaimed: “There’s only two things worse than being poor—it’s sick and dead.”

There are a lot of ways to save for retirement.  The FICA payments most of us make toward Social Security is one method, though there are serious questions as to whether that system will remain solvent in future years.  Another possibility includes systematic purchase of corporate securities, normally within mutual funds.  More exotic methods utilize tax-sheltered annuities, government creations such as IRA accounts, 401(k) Savings Incentive Match Plan for Employees, and Simplified Employee Pensions (SEPs).  Perhaps as a last resort you might hit it big in a lottery, or at a blackjack or bingo table.  Irrespective of the plan or plans you choose, your success will depend largely upon circumstances over which you exercise little control.  If the Dow Jones Industrial Average drops 416.02 points, as it did on February 28, 2007, taking with it substantial equities, there is nothing much to do except watch it go and hope for a turnabout to restore the loss.  This, unhappily, is the basis of the average American’s retirement program.  The fact that a substantial percentage of retirees are dependent upon family members or the government for their livelihood is not surprising.

With that said, I’d like to introduce an investment technique of a different nature.  What I am about to describe is not intended as complete retirement planning.  It is, instead, what I consider to be a fail-safe mechanism to rely upon in the event all other efforts you make prove disappointing.  Its benefits include the following: only small sums need be committed; it’s simple to set up and operate; results are predictable; most importantly, at the end of your working days you’ll be essentially self-sufficient.

Here’s how my method works: You will, from your earliest working days, systematically set aside a small sum of money—no more than $4,000—each year.  You may contend that’s not a small sum, but a daily package of Winston cigarettes together with large cup of Imperial Mocha at a local popular coffee shop will set you back over $4,000 per year.  Once the money is available, the critical element is what you do with it.  Very simply, it will be invested in interest-bearing vehicles such as money market accounts, certificates of deposit, treasury obligations, and particularly corporate bonds.  Admittedly, the only benefit attainable is interest income, but that can be formidable.  The multiplying effect of compound interest is nothing short of phenomenal.  As an example, $4,000 invested annually from age 25 through 65, obtaining a 7½ percent return—certainly not unobtainable—compounded semiannually, grows to over one million dollars by the end of those 40 years.  As implausible as this may seem, it’s because of the compounding effect, which is as close to magic as you will ever get.  What occurs, simply, is that when paid, the interest earns interest, which in turn earns more interest, which in turn . . . I think you get the picture.  The multiplying effect resembles a geometric progression—a sequence in which the ratio of a term to its predecessor is always the same.  Perhaps it passed over your head when first exposed to the principle in high school math, but as a get-rich-steadily device it is a winner.  It’s true, of course, that the tax man can take a big bite out of it.  However, if the growth can be accomplished in a tax-deferred account—or most favorably in a self-directed tax-free Roth IRA—the full potential will be realized.

At this point I hear your objection: “How do we get a 7½ percent return from the sort of investments I’ve described?”  I’ll admit it may seem a little optimistic, though not as outlandish as in mid-2004 when money market funds and bank deposits were yielding less than 1 percent.  With the Federal Reserve Board’s current Discount Rate of 6.25% and the prime at 8.25%, we’re pretty close to generating 7½ percent right now.  A little selective bond buying will make it possible, all of which brings us to the heart of the project.  The million dollar question becomes: How can it be done in a way I’ve described as “simple to set up and operate”?  This is where you’re entitled to the details of actually acquiring and managing a growing portfolio of bonds.  It’s neither brain surgery nor rocket science; it’s simply placing into operation a set of cut and dried procedures and then repeating the process over and over.  For a convenient overview of the system, I’ll direct you to my website www.onthemoneytrail.com, where you’ll find two articles relating to bond investment.  The first, “Why Bonds Belong in a Retirement Account,” will supplement what I’ve said here more thoroughly.  The second, “Junk Bonds Need Not be a Crap Shoot,” gets into the nitty-gritty of the enterprise in a way you’ll not encounter elsewhere.  You’ll find both by clicking onto Newsletter Archives at the upper right hand corner of the index page; these two articles are at the bottom of the list, identified as Bonus articles.

A final comment on retirement is in order.  I’ll concede that if your sole retirement planning is the program I’ve outlined—but nothing more—and you manage to accumulate a million dollars by your 65th birthday, you’re unlikely to spend your golden years in grand style.  Nonetheless, you’ll be able to feed, clothe, and house yourself adequately, with probably a little left over for simple comforts.  This may not be nirvana, but it’s better than what most people in this world attain.

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Al Jacobs has been an entrepreneur for forty years. His business experience ranges from property management and securities investment to appraisal, civil engineering, and the operation of a private trust company. In his book, Nobody's Fool - A Skeptic's Guide to Prosperity, Al presents his Ten Ground Rules for Success for achieving wealth and a prosperous life by outlining a philosophy for spending, borrowing, making sound investments, and how to avoid being victimized by America's many intimidating institutions.