Our ultimate goal is to create cash flow that covers our expenses so we can get out of the rat race and on the fast track to financial freedom. We are all in different financial places and for some with larger trading capital, the path may be shorter than those with a smaller nest egg to trade with, depending on our financial goals.
In the meantime, we have to analyze our financial situation to determine the timeline for financial freedom.
Let’s start by posing a few questions to ourselves.
- What are our monthly living expenses? This includes all recurring monthly expenses such as mortgage, car payment, credit card payments, utilities, groceries, clothing, etc.
- How much capital do we have access to trade with? Any asset that can be converted to cash to trade will be included in this number. For instance, investment accounts, retirement accounts and savings accounts.
- What is our monthly net trading profit? In order to understand the power of our trading capital, we need to know our monthly net (before taxes) trading profit.
- Do we want to continue to grow trading portfolio as well as create cashflow? Think about our goals, do we have a number in mind we want to achieve? This will help us understand the potential timing of how long we need to reinvest our profits before collecting passive income.
- Are there any major purchases that will reduce our trading capital? Do we have kids that need college paid for? Are we planning on purchasing a new home, boat or planning that
Once we know the answer to these questions, then we can analyze what the reality of our goals. For instance, if we need $3,000 passive income to cover our monthly expenses and we are profiting 3% monthly trading, we need $150,000 trading capital ($100,000 x 3% = $3,000). In this scenario, we would be financially free trading $150,000 monthly. If that is our only goal, than we have arrived. However, in 10 years our trading account would remain at $150,000.
Remember our overall portfolio has power, the power of compounding interest (profits). The ‘rule of 72’ is a method of measuring an investments doubling time when continuously reinvesting the monthly profits. Simply stated, we divide the 72 by the annual rate of return to see how many years it will take to ‘double’ our money.
Let’s look at the power of compounding with reinvesting all our profits monthly. If we are trading $150,000 at 3% monthly, the annual profit would be 36% (3% x 12m = 36%). Following the compounding principle, our money would double every 2yrs (72 div/ 36 = 2) and simply put look like this:
- 2yr = $300,000
- 4yr = $600,000
- 6yr = $1,200,000
As our money grows so our monthly profits grow. In the above scenario looking at year 4 of reinvesting, the power of $600,000 at 3% monthly, profits $18,000 a month. Once our trading portfolio grows large enough to support our monthly expenses and profits to reinvest, we can have our cake and eat it too. We are now financially free covering our monthly expenses, PLUS reinvesting a tidy profit growing our power larger as each month passes by.
Everything we teach at Rich Dad Education is system based with a step by step plan to achieve your financial goals.
- Jonas Taylor is a financial expert and experienced writer with a focus on finance news, accounting software, and related topics. He has a talent for explaining complex financial concepts in an accessible way and has published high-quality content in various publications. He is dedicated to delivering valuable information to readers, staying up-to-date with financial news and trends, and sharing his expertise with others.