Building wealth is a goal most people aspire to. Contrary to common belief, the secret to building wealth isn’t having an enormous salary; rather, it revolves around three core principles: saving, investing and reinvesting.
Understanding these fundamentals can set you on the path to financial freedom.
The fundamental principles of wealth-building
Building wealth, at least in theory, is relatively straightforward. You have to save diligently, invest wisely and then reinvest to grow your assets.
The first step, saving, is about setting aside a portion of your income regularly. This creates a financial buffer and supplies capital for investments. Once you have savings, the next step is to invest those funds in assets that can grow in value or generate income (or both).
Investing is where the magic of wealth creation really starts to happen. By purchasing assets like stocks, bonds or property, you’re putting your money to work to earn a return that, hopefully, outpaces inflation. This grows your wealth over time.
The final step, reinvesting, involves taking the income or gains from your investments and using them to purchase additional assets, accelerating your wealth accumulation.
The younger you start your investment journey, the more you can take advantage of compound interest, which Albert Einstein famously dubbed the ‘eighth wonder of the world.’
What’s compound interest?
Compounding is one of the most powerful tools an investor has.
It’s the process by which an investment generates earnings, which are then reinvested to generate their own earnings.
This cycle of earning and reinvesting can significantly increase your investment value over time, particularly if you start early.
To see how, consider two individuals, Carolina and Andy, who both decide to save $30,000 over a period of 20 years, albeit at different stages of their lives.
For the first 10 years, each saves $1,000 annually, and for the next 10 years, they increase their annual savings to $2,000. Let’s also assume both earn a constant annual return of 6%, and they make their contributions at the end of each year.
The only difference is that:
Despite saving the same amount of money and earning the same rate of return, their financial outcomes at age 65 are markedly different:
This stark contrast in their end results is due to the different compounding periods for their investments. Carolina’s money benefits from up to 40 years of growth, significantly more than Andy’s 20 years.
Why diversifying your investments is crucial
We all know the saying that you shouldn’t put all your eggs in one basket. Well, the same holds true for your investment portfolio.
Investors typically diversify their portfolios across four main asset classes:
Why property is a popular choice for long-term wealth-building
Many Australians are already invested in the stock market through their superannuation funds.
To complement this, property has also been favoured for wealth building. That’s because it’s tangible, provides potential tax advantages and historically appreciates in value over the long term.
Moreover, property can generate rental income, which can help cover your mortgage payments and maintenance costs.
Starting young with ‘rentvesting’
For younger investors, entering the property market might seem challenging due to soaring home values. But that’s not to say it’s impossible.
Rather, an increasingly popular strategy is ‘rentvesting’ – which is when you rent a property where you want to live and buy a property where you can afford. This allows you to get a foothold in the property market and start building wealth through real estate without sacrificing your desired lifestyle.
Recent CommBank data showed that 46% of the bank’s property investor clients in 2023 were millennials. They were followed by Gen X who accounted for 37% of all new investment property purchases throughout the calendar year. Many of these borrowers were rentvestors, according to CommBank.
Growing your property portfolio
Once you have your initial property, you can think about expanding your portfolio. Strategies like refinancing to access equity built up in your existing properties can help fund additional purchases.
This strategy can accelerate your property portfolio’s growth without needing large sums of cash for deposits. Each additional property can then increase your income through rent and potential capital gains, accelerating your wealth building.
However, this strategy requires careful financial management to ensure your new debt is sustainable.
Tailoring your strategy as retirement approaches
As you near retirement, your investment strategy is likely to shift towards preserving capital and increasing income. This may involve moving funds from volatile investments to more stable ones, such as property, with consistent rental yields. The goal is to reduce financial risk while ensuring a steady income stream to support your retirement lifestyle.
Many people also find that their housing needs decrease as they age. So you might want to consider downsizing your home into a smaller, less expensive one. This can free up capital to boost your retirement savings and reduce ongoing maintenance costs.
General wealth-building tips for all ages
Want to build wealth through property investment? Shore Financial can help. To discuss your options, call us on 1300 416 700, email us on info@shorefinancial.com.au or fill in this online form.
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