How to Start Investing for Early Retirement

How can I retire early? What must I do to save up enough for my retirement? What must I do to ensure that I live comfortably when I retire?

These questions have been pondering in the hearts of so many, and had left many of them with sleepless nights. To be honest with you, I’ve had my fair share in the past. To be happy in the future, you need to create a sustainable income that would take care of your needs when you’ve stopped working.

The absolute best way to achieve this is to save and invest for the future.

woman holding an ipad

If you want to learn how to start investing for early retirement, then this article is for you. You’ll gain a first hand knowledge on how to make money investing in stock market, which is a better alternative for early retirement plan.

If you’re a pro investor, I think you’ll be familiar with the context of this article, but you can still learn some strategies on how to improve on your wealth of experience. However, if you’re just hearing of “investing in stock market” for the first time, or you’re trying to get hold of some materials that would gear you towards the right direction, then this is a step towards the right direction.

People who don’t invest in the stock market have their reasons, and their opinions about the stock market are different. To some; it’s the fear of losing their money, and to others; mistrust, maybe they’re lucky or not, or just curious of the outcome, whether they can beat the market based on instinct.

Some newbies believes that trading or investing in stock market is a gamble (Although it is, if you invest blindly, or out of emotions and improper calculations), however, they are wrong about it. You’ll only say that investing in stock market is a gamble because you don’t know how to trade to win.

If you’re confident on how to successfully invest in stock market, then you’ve bought yourself a lifetime ticket of steady income for your retirement plan with no effort or work.

What you need to know about stocks.

stock market app

Buying a stock of a company means owning a percentage of that company. When you own a share of a company, you’ll become a shareholder, and have rights to participate in decision making, voting, and sharing of the company’s future earnings (which is known as dividend). Dividend are percentage of the company’s profits that are shared among shareholders, based on their amount of shares.

Some companies pay a fraction of their profits to their shareholders, while they grow gradually, while some invest 100% of their profits into the business for rapid growth.

How valuable is the company you want to invest in?

The value of your stock is calculated based on how much profit (dividend) it fetch you. The higher your shares in a company, the higher your percentage when it comes to profit sharing.

Several factors makes the price or value of a stock to increase or decrease. For instance; the stock of an oil company would definitely skyrocket if there’s an increase in the demand of oil commodities. On the contrary, if there’s a sudden change from the usage of fuel combustion vehicles, to electric vehicles, then value of the stock of the oil company would decrease because the demand for oil commodities would decrease.

Buying stocks for the first time

stock chart

If it’s your first time investing in stop, then the first step is buying them. It can be very exciting for beginners, most especially after seeing people raking 6-7 figures from stock. However, it can be very challenging. You need to learn how to be cautious and play safe. Therefore, I’ll advise to learn it properly before venturing into it.

Here’s a good article covering this topic: https://www.nasdaq.com/investing/start-investing-1000.stm

Long term vs Short term

Stock prices fluctuates always, due to the volatility of the market. Short term trading is more of a gamble, because you never can tell the seconds when the price would drastically rise or fall, and if you’re not careful, you might go bankrupt in a blink of an eye.

Long term investment is a better option. Sometimes even if your stock value falls, it would gradually rise again, and you’ll have the opportunity to make profit from it.

Which stocks to buy to make money?

The best way to invest in stock without much headache is to buy ’em all. Several smart researchers suggests that the best way to make money from stock market is to buy an “index fund”. This is a mutual fund that automatically buys an equal fraction of all the major shares in your country.

When you buy all of the major stocks, some would rise, and some would fall, but in overall, you’ll make above average. This is the best strategy for even that anyone can use to make money from the stock market.

If you choose to do some calculations, then invest your whole cash in a particular stock, and it fails you, then your retirement plan would fail. So it’s better to invest in index fund, and have peace of mind. It’s no doubt that you can only earn very large if you invest a huge sum in a particular stock that grew so rapidly, however, would you be able to survive it if it falls so drastically?

What type of index fund you should invest in?

pile of money and funds

Invest in The Vanguard Total Stock Market Index Fund, and you’ll thank yourself later for doing so. They track the entire of U.S, with the expense of just 0.17%. This is the cheapest you can get, however, if you’re looking of employer-sponsored plan, maybe you should try the S&P 500 Index fund.

There are the International trust funds as well. They are great buy, most especially when the U.S is hurting, it would give you a high ROI.

In conclusion

Whichever stock you’re investing into, the main goal is to retire early and have enough to take care of yourself. Just remember to never lay all your eggs in one basket. Learn how the stock market works, go about it slow and steady and I’ll bet your retirement would be a luxurious one.

Magic Formula Investing – What it is and How to do it?

If you are investor who wants to consider a money-making strategy that could help you in value investing, the Magic Formula Investing is a wicked strategy that can actually yield impressive results.

Joel Greenblatt, a Columbian professor and a fund manager, introduced the “magic formula” in his 2005 book, The Little Book That Beats the Market, and since has remained a common strategy in the stock investment market.

The formula relies on the quantitative screening of stocks and companies thereby highlighting the annual returns of a particular market.

What is in the Magic Formula?

a crazy scientist

The magic formula was designed to help all investors like you to “buy good companies on an averagely fair price.” With this non-emotional, straightforward approach, you will be able to screen companies that have high investment value and make the right investment decisions.

Instead of carrying out a comprehensive analysis of stocks and companies, you are able to use the formula to obtain top 30 ranked companies which you are able to invest.

The magic formula utilises the earnings yield of stocks and capital returns to make company rankings as these two factors can be used to efficiently measure how the companies generate their earnings based on asset values.

Since the magic formula is commonly incorporated among companies whose capitalisation value is worth $100 million and above, it would not be advisable to apply it if you intend to invest in small cap stocks.

With the strategy, you are able to sell your losing stocks to benefit from the income tax provision as well as sell your winning stocks to take advantage of the low income tax rates.

How do you use the Magic Formula to make investments?

The easy way:

Joel Greenblatt has actually put together a website where he does all the calculations for you for free. You can choose 30-50 stocks from the list. Buy them, wait for one year and then rebalance your portfolio. It’s as simple as that.

homepage of magic formula investing

The website is: https://www.magicformulainvesting.com/

The hard way:

Choosing a company or stock to invest in using the formula involves simple steps. First, you will have to master the rules of the formula application. The investment approach has nine specific rules that you must follow:

  1. Only consider stocks that have market capitalization value of $100 and above.
  2. Do not include utility or financial stocks
  3. Exclude any American Depositary Receipts (ADRs) or foreign companies
  4. Understand the earning yield of the company of interest; this is known as EBIT/EV
  5. Identify the return on capital of the company i.e. EBIT/(working capital + net fixed assets)
  6. Based on the above 5 steps rank your findings based on the capital returns and earnings yield. Rank your findings using percentages
  7. Over a period of 12 months, invest in top 20 to 30 ranked companies as you accumulate 3 positions every month
  8. Rebalance and compare their portfolios every year, selling your winners after a period of 53 weeks from the purchase date while selling your losers 51 weeks later. This step is important to allow you take advantage of the tax shifts.
  9. You are required to utilize this formula only for long term i.e. you should be willing to invest to up to a minimum of 5 years

After mastering the rules, the second step is to implement the formula by yourself. In order to pick the “magic” stock or company, you will need to screen the stocks with the least market capitalisation value. After this, you will need to exclude the financial and utility stocks due to the fact that they have different business models as well as the ways through which they make money.

The next step involves determining the earning yield (EBIT/Enterprise Value) of the company you have chosen keeping in mind that all non-USA companies are excluded.

You will then determine the Return on Capital of the companies then rank them based on the Return on Capital and Earnings Yield values. You can now invest in the top 20 or 30 companies by taking stocks after every 2 to 3 months over a period of one year; this is followed by a continuous re-balance of the portfolio annually.

Implementation and expectations

Individuals always observe variable returns amidst the fact that they are following the same steps. The two key determinants of your returns include the type of stock you buy and the time at which you buy the stock. Keep in mind that the screener might produce variable results in different days as stocks exchange in the top identified companies.

Thus, Greenblatt had recommended that investors implement the formula for at least a period of five years. A short period of one or two years may result in the underperformance of the indexes. It is only over a long period that you will be able to purchase good companies at a favorable price.

Understanding the two ratios in the formula

After going through the magic formula, you are able to see two financial ratios that Greenblatt had included:

EBIT/EV—this ratio represents the earnings before taxes or interests divided by the value of enterprise. Although earnings/price is a simpler version of the ratio, Greenblatt considered EBIT more preferable since it accurately measures companies with different rates of taxation. EV is more applicable in comparing share prices since it factors in the debts of a company.

EBIT/(working capital + net fixed assets)—this ratio focuses on the earnings in relation to tangible assets. Net fixed assets refer to the fixed assets (such as machinery) minus all liabilities and accumulated lifetime depreciation associated with that identified assets. Rather than considering fixed assets, net fixed assets provide an accurate real value of the assets that a company owns.

Do not underestimate the relevance of these two ratios. They are actually giving the computations of different data reflecting the inner functioning of the companies. They reflect: the actual earnings, tax rates, interests, debt, price of equity, asset depreciation rates, and current liabilities and assets.

Does the Magic Formula work?

Based on past studies and Greenblatt’s calculations, it is evident that the magic formula works. According to Greenblatt, the investing strategy is able to generate up to 30% of annual returns.

Similarly, one study tested the formula between 1999 and 2009, and found that there is an average return of 13.7% every year.

Another study conducted between 1993 and 2005 also found that the formula outperformed the market index of the United States by 3.6% while in the UK and Japan, the index rates were outperformed by 7.3% and 10.8% respectively.

Although the values differ, they all show a positive investment return of the magic formula.