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What You Must First Do Before You Invest

Investing offers us the possibility of growing our personal wealth. However, there might be a deeper meaning behind the term “personal wealth.” And before you start investing, you should take some time to understand what the term might mean. Here goes!

Your personal balance sheet

Understanding your personal wealth is like drawing up a personal balance sheet for yourself. Looking at only the things we own gives an incomplete picture of what our wealth really is. Just like a company’s balance sheet, we need to separate all the financial thingamajigs in our life into the three categories of (1) assets, (2) liabilities, and (3) equity.

For instance, your house, car, cash, shares, (even your furniture and dog!) might be considered your assets. Then, you’d need to factor in your liabilities – these are things like your housing mortgage, your car loans, and your credit card debt etc. When you calculate the difference between the two (i.e. subtracting liabilities from assets) you’d be left with your equity. That equity is your true net personal wealth, or net worth, at any point in time.

Now, why is it even important to know your net worth? That’s because to get to where we want to be, we first need to know where we’re starting from. It doesn’t really matter how your equity looks like now. It can be S$100,000, or it can be zero. It can even be negative. But that’s fine.

Knowing where you are now gives you a better idea of what you might need to do to get to where you want to be in say the next five to 10 years. Also, with a clearer picture of our true net worth, we can also compare our progress from time to time. Who knows, perhaps you too would reach a million dollars in net worth in the not-so-distant future. It’s not impossible. In fact, we at the Motley Fool Singapore have prepared a special guide titled 10 Steps to Making a Million Singapore Dollars in the Market. It is FREE, so click here to grab a copy now.

Foolish Summary

A typical millionaire is in fact, just a normal ordinary person. The following hypothetical scenario which I had shared recently might also give you some faith that building meaningful wealth can really be done:

“Say you still have 30 years to go before retirement. How much do you think you’d need to save each month in order to be a millionaire when you retire? Make a quick guess. $5,000? $7,000?

In fact, the amount is much lesser than you might think: It’s only $500 a month! If you are able to save about S$500 a month, and invest it prudently, achieving a return of 10% a year, you will retire a millionaire after 30 years.

Saving chart

Lest you think a 10% annual return sounds like a pipe dream, here’s some food for thought. Since the start of 1988, the Straits Times Index (SGX: ^STI) has achieved a compounded annualised return of 5.3% per year at its current level of more than 3,300 points. The SPDR STI ETF (SGX: ES3), an exchange-traded fund which tracks the STI, has achieved compounded annual gains of 8.65% between April 2002 (its inception date) and July 2014 after including gains from reinvested dividends.

With the right advice and some discipline, achieving 10% a year, which is just a tad higher than what the SPDR STI ETF has returned over the long-term, might not be all that mystical.”

Now that you have the ability to calculate your net worth, you will be able to start planning for the journey ahead.

The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Stanley Lim does not own any companies mentioned.