Is Passive Income Just A Fluff?

How easy it is to create passive income in our life so that we don't have to depend on our active income anymore? To be honest, it takes time and its not easy but its possible if we take one step at a time. Many years back, when I first got to know the concept of financial freedom and creating passive income, I was inspired and motivated to achieve it. However, after awhile, reality sets in and I realise its not as simple as it seems. There are some lessons which I learnt over the years which I thought will be good to share in this article.

Is Passive Income Just A Fluff?

Passive income is money earned even when we are not working on it while active income is money earned through exchanging it with time. All of us have jobs to earn money for our daily living. We use time to exchange it with money. It may be 8 hours or 10 hours a day. While passive income also requires time to build, the time spent is not fixed to certain hours and more often than not, the time spent to create passive income should be much lesser than active income.


Passive income can come from dividends from stocks, rental income from property, online marketing etc. I've seen people who actually have more than enough passive income to sustain their lifestyle without depending on their active income. This is achievable but what does it take to achieve it? Let's look at dividends from stocks as a form of passive income first.


Dividends from stocks as passive income

One of the most common form of passive income is dividends from stocks. There are people who are already getting a few thousand dollars from dividends every single month on average. This is like getting a salary every month without going to work. However, when we look at their stocks portfolio, it is often at least $500K or more.

A $500K stocks portfolio with 5% dividend yield will generate $2083 in dividends per month. This most likely will not be enough for a family to get by, so to depend wholly on dividends to sustain our lifestyle, we will need a $1 Million stocks portfolio. This is the reality which we need to accept and then we can work towards this target step by step.


Rental from properties as passive income

The next common form of passive income is rental income from properties. In the past, people who bought properties at a low price and rent it out are earning good passive income from their properties now. Because of the low price back then, those who bought good properties will most likely get quite a good positive cashflow even after paying their property loans.

If you've read the book "Rich Dad Poor Dad", you'll learnt that properties need to generate positive cashflow for it to be a good asset. Assets put money in our pocket while liabilities take money out of our pocket. Nowadays, its getting harder to generate positive cashflow from properties in Singapore as price is high and rental is not as good anymore. Also, with multiple government cooling measures, it makes it even more difficult to invest in good properties now. Yes, we can still earn money from renting out properties but the yield may only be a low of 3%-5% per year.


How to start creating passive income?

Focus on active income and saving more first

We need capital to create passive income, the more the better. with $10,000, there is only so much passive income you can create out of it but with $100,000 or $500,000, the passive income we can create is much greater.

Building active income requires time and effort but the more we earn and save, the faster we can create more passive income for our future. Active income will always be lower at the start of our working life and only increases as we get more experience and upgrade our skills. I'm in my 3rd job now and have made a conscious effort to plan and upgrade my skills in order to earn higher income.

Start small in building passive income

We have to start somewhere in building passive income no matter how small it is. Even when I just had $10,000 savings, I started investing in stocks. The dividends I get is probably only less than $50 a month back then. Starting small is important as we will make mistakes and earn along the way. Its better to make small mistakes at the start, losing a bit of money, than losing a lot of money when we start investing only when we have more money.

Back then, losing a few thousand dollars in the stock market seems like a lot of money to me when my savings were little. It forced me to learn the hard way and get better in investments. Thinking back, if I had started investing when I had more money now, my losses could have been tens of thousands.

Make the passive income sustainable

The key to building passive income is making it sustainable. This can only be done over the years by building a strong foundation. Finding the right stocks to invest in which has sustainable dividends is important. This requires some research and monitoring to be done. For example, when investing in REITs, we have to look at the location of properties it has, the industry it is in, the dividends track record, the rental reversion and many more. All these will help us determine if the dividends given out will be sustainable.

Even for investing in properties, if we bought the property at a bad location, we may not even get enough rental income to cover the loans we have to pay. It requires some homework to do the math and get our sums right before investing in it.


Creating Passive Income Instead of Active Income - How Easy It Is?

Creating passive income takes many years to build. It may take 10 years, 20 years or even 30 years to create passive income which can sustain our lifestyle indefinitely. We can start small, work towards a goal and see it happen before our eyes in the years to come.

After years of increasing my active income, I've made myself more busy and I realised time is always not enough if I continue creating active income. There is a limit to how much active income I can create or increase. Even with a higher salary, it often comes with more work and many more hours spent on the work itself. With this, I would be shifting my focus more towards creating passive income again for next year.

Its not a difficult task to create passive income but it definitely takes patience and sone work to see it being fulfilled.

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Retirement Survey Results - Understanding Our Needs and How To Achieve It?

One week ago, I launched a retirement survey on my blog and said I will release the results and also write it into a blog post. Thanks to all who have done the survey. There were quite a good handful of responses which made this blog post possible. The purpose of this post is to show what other readers, like yourself, think about retirement needs and then I will provide some examples to show how we can actually achieve our targets for retirement. Let's begin.

Survey Responses

Q1: At what age do you hope to retire?

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For the first question, most people are looking to retire at the age of 50-55 years old or 55 to 60 years old. This seems to coincide with the time we would be getting our CPF at the age of 55. I guess its also a achievable age to retire after working for about 30 years or so. There are also quite a number of people who are looking to retire at the age of 40-50 years old. Let's see how is this possible in the later part of this post.

Q2: How much do you think you need per month when you retire?

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For question 2, people generally think they need about $2000-$3000 per month for retirement. There are mixed responses where some think they need $1000-$2000 per month while others think they need $3000-$4000 per month. I guess this depends on individual lifestyle and preferences. We will look at how to achieve our desired monthly income for retirement too.


Q3: How much savings do you think you need by the time you retire?

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For question 3, it seems like most people believe they need at least 1 Million dollars to retire. Some felt they just need about $500,000 to $1 Million.


Q4: Choose which instrument you would use in order to reach your retirement goals (Select all that is relevant):

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For question 4, most people feel they can use a variety of instruments to reach their retirement goals. Stocks and CPF savings are 2 of the best instruments which people feel they could use.


Q5: Do you worry you would not have enough money for retirement?

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For question 5, most people are worried about having not enough for retirement. I guess its very hard to know what will happen in the future so people are generally worried. However, I think if we plan well ahead and have more information on how to achieve our retirement goals, it will be much better for us.

Achieving our retirement goals

In summary, the survey results show that most of us want to retire around age 55 with a monthly income of $2000-$3000 and we think we will need $1 Million in order to achieve that. Let's say if we start saving and investing at the age of 25, how much must we save to achieve that? How about if we start later, can we still achieve our retirement goals?

The Millionaire Dollar Grid

I came across this million dollar age grid from fourpillarfreedom.com. I love the grid because it shows very clearly how we can achieve our goals in just one grid.

This grid assumes you start with $0 and your savings are invested at a 7% annual interest rate. Let's take for example you start at age 25 saving $16,000 a year and investing it at a 7% annual interest rate, you can achieve $1 Million dollars at the age of 50.

Even at 50 years old, if you manage to save and invest $40,000 a year, you can become a millionaire at age 65. But, do we really need a Million dollars to achieve $2000-$3000 per month income during our retirement years?

Getting the monthly income for our retirement

There are a few methods for drawing income for retirement. The first is drawing out from our lump sum savings for our monthly needs until it runs out. This is what a lot of people have done. $1 Million dollars will only last 27 years if we draw out $3000 every month.

The second method is to get a monthly income through an annuity. We pay a fixed amount of money to buy into an annuity then get monthly payments when we retire. In Singapore, all of us are enrolled into a national annuity called CPF life. Through the survey, CPF savings was one of the top choices which many of us will be using for retirement. Through the CPF life scheme, a sum of $249,000 at age 55 will get us a monthly payout of about $1860 to $2000 when we reach 65 years old. This will be paid to us all the way until death. It seems like we don't need $1 Million to get a comfortable income of about $2000.

The only problem I guess people have with CPF is the payout age is too late. It would be better if there is some kind of payment before age 65 but I guess we would need a lot more savings in the account to get the same payout if that ever happens. Nevertheless, I still think CPF life is a good income stream for our retirement. For us who want to have some income stream before age 65, we would have to plan something additional which leads me to the third method.

The third method to get monthly income is through investing in good dividends stocks. When we have accumulated some savings, we can invest and get some income through dividends. Let's just use 4% as a safe margin for dividends. If we have $1 Million in cash and invest to get 4% dividends, this would translate into $3333 per month for us. The problem is $1 Million may be somehow hard to achieve for some people.


The combination strategy for retirement

I've mentioned retirement a lot of times in this article but to me, achieving the savings or monthly income is not to retire and do nothing at all. Its all about having some freedom to choose what we want to do in life instead of being stressed at work because we have to work for money.

As mentioned, CPF life is one of the monthly income streams we can look forward to. However, it only pays out at age 65. We can probably have some plans to achieve a certain monthly income through stocks investing or other methods before age 65. Targeting to save $500,000 and invest at 4% interest would get us $1666 per month. This could probably be achieved before age 50. Once we reach age 65, CPF life would payout probably $2000-$3000/month depending on the sum we have in our accounts. The maximum amount in CPF now is $249,000 which pays out about $2000. By the time most young people, in their 30s currently, reach retirement age, the amounts should have adjusted upwards so they could be looking at payouts of $3000 or more. If you're reaching 55 soon, you could plan to get more than $2000 in monthly payouts. The CPF retirement sums will increase accordingly to adjust for inflation.

Achieving monthly income of $2000-$3000 shouldn't be that difficult if we use the right tools. Saving up and investing in stocks is a good way to build some passive income while CPF life also provides some stable income in our later years. If we can achieve $1 Million, it would be good but it seems like even if we did not have $1 Million dollars, we could still retire quite comfortably.

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Multiple Streams Of Income - Can It Be Done?

The fear of having not enough money or losing our job makes one think about how to create multiple streams of income. It has been a popular topic since many years ago in this uncertain world we live in. Just these few months, I've heard a few people got retrenched. This makes me wonder when will I be next?

However, when we are already so busy with our work, how do we even have more time to create more streams of income? Its quite impossible to take up another part time job or even do freelancing when time is so tight for everyone. So, how can we create more streams of income using the least amount of time and is this realistic? Let's take a look at how it can be done.


Dividends from Stocks as an Income Source

If you're thinking of whether dividends from stocks can possibly be a source of income, the answer is yes. There are real life examples of people who manage to create $10k or even $100k of dividends through stocks. A few of my financial blogger friends have already achieved that.

However, nothing comes easy. Through my conversations with some of these friends who have already done that, let me share what did I find out.


1) Save Save Save

The first step to creating dividends from stocks is to save up. Without any investment capital, there is no way we can get dividends. Maybe you think you can invest $1000 and get $10,000 easily. The reality is not the case.


2) Look out for opportunities when its gloomy

Many people make their first pot of gold when a crash happens. This greatly increases our investment capital which will be useful for dividend investing.

Many multi baggers are made during a market crash. This means we could make more than 100% return on our investment on a single stock. This kind of opportunity doesn't come all the time so take advantage of it when you see it. How to know which stock to buy? This brings me to the next point.


3) Learn how to value companies

Buying stocks at the right price is all about knowing how to value a company. How much is the company really worth?

There are many variations on how valuation can be done If you read it up on your own, most probably most beginners will get confused. The most basic form of valuation is the PE ratio. There is no one fixed number we should look at. A PE of 20 for one company compared to another company with PE of 10 doesn't mean much if we do not understand what is it about. The PE ratio is calculated by taking the Price (Stock Price) divided by the Earnings (Earnings per share) of the company. If the Earnings of the company drop sharply and price remains the same, PE ratio will be a very high number. Similarly, if stock price goes up a lot while earnings remain the same, the PE will be very high. As such, a low PE is generally better than a high PE.

One way to look at PE is to compare the PE of companies in the same industry. The company with lower PE is more attractively priced than another company with higher PE. Let's take for example 3 companies in the Telecommunication industry namely Singtel, M1 and Starhub. Here's their PE:

Singtel PE: 16.46
Starhub PE: 14.39
M1 PE: 13.12

If we just base on PE from the above, M1 seems to be most attractively priced. Does it mean we buy M1 straight away? The answer is no. Previously I wrote an article about how Starhub went wrong as an investment. It is a lesson that if we buy at the wrong price, the whole investment can suffer.

Valuation has a second part where we try to project the future PE. We have to ask ourselves if we buy M1 at current PE ratio, is it really attractive? The PE ratio is low now base on current price and earnings. If earnings of M1 drop further, the PE will shoot up again. Most of the time, the stock price will also drop to reflect a fairer PE ratio. Earning drop and price drop will re-balance back the PE.

Another scenario is where the PE is not that low now but we predict that earnings will go up. If earnings really go up, the PE will be lower thus making it more attractive. The most ideal scenario is where the PE is low now and we also predict that earnings will go up. Most of the time, the stock price will go up thereafter to reflect the valuation.

In summary, PE ratio is useful for valuing a company base on its price and earnings. A PE of 1 means the company is making a profit that is equal to its price. Let's say a company has $100,000 worth of stocks (investors money) and it made earnings of $100,000 that same year, its PE ratio is therefore 1. PE ratio can also be described as the number of years it takes for investors to get back their money.

There are many other valuation methods such as using the price to book ratio which is a valuation of a company's assets. Some investors use other models such as calculating the intrinsic value or looking at the cash or free cash flow. It will be confusing if we're not finance or accounting trained but all these can be learnt if we are really determined to do so.


4) Don't be fooled by high dividends

Getting dividends from stocks doesn't mean we just go for the stock which has the highest dividend yield. Since we are investing into these stocks to get a second source of income, we want the income to be stable as well.

When companies pay out dividends, they have to get the money from somewhere. If a company has a payout ratio of 100%, this is unsustainable in the long run. It is likely the company will reduce its dividends later on. A company who pays out 100% of its profits in dividends do not have money to continue growing and expanding.

Another thing to look at is whether the companies' profit will be stable? If profits are not stable, it is likely the dividends will be affected later too when earnings drop.


Other multiple streams of income

With limited time, it is honestly quite hard to create more sources of income. We can build websites, publish books, sell items, do freelance etc. But, all these take time and effort.

To me, I would think dividends from stocks is an achievable stream of income. The hard work is certainly needed at the start but as time goes by, we will get more and more familiar. We can buy a company and hold it for the long term while monitoring its financial results only once every quarter. If you realise, there are some very stable stocks which gives good dividends in Singapore. In that case, we don't even have to monitor much.

Take the first step to invest and create a second stream of income!

New to Dividend investing? These articles will get you started:

The Power Of Dividend Investing [Part 1]
The Power Of Dividend Investing [Part 2] - Choosing the right stocks for dividend investing

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The Power Of Dividend Investing [Part 2] - Choosing the right stocks for dividend investing

Dividend investing helps us create passive income so we can achieve financial independence. In my previous article, I wrote on the benefits of dividend investing and how we can essentially get more than 10% yield on our investment. You can read part 1 here: The Power Of Dividend Investing [Part 1]

Credit: Wikipedia

The question now would be, how do we pick the right dividend stocks for successful dividend investing? Let's take a look at some criterias for dividend investing in part 2 of this series. But before we get right into it, let me show you the pitfalls to avoid using the story of this once hot stock listed on the Singapore exchange.


Pick the wrong stocks and suffer

As with all investments, if we do it the wrong way, we would lose money. This is the same for dividend investing. Not only do we get lesser dividend if we pick the wrong stocks, some stocks will also cut out dividends totally.

Creative Technologies - The Once Hot Stock

One example of such a company which performed poorly over the years is Creative Technologies. You may remember the sound blaster sound card which used to be popular for PCs and the many breakthrough sound technologies which they have. However, in the end, Creative did not manage to keep up with the competition and the technology changes and fell behind over the years.

Let's take a look at its stock price from 1998 to now:

Image from Yahoo Finance (Click to enlarge)

Creative Technologies share price was once at a high of $59.50 in year 2000. The share price now is only $1.37 cents. This is a scary drop and those who bought it at a high would have got their fingers burnt badly.

As for dividends, Creative paid a stunning 50 cents dividend in 1998 which consist of a special dividend of 25 cents. In 1999, dividends paid was 25 cents. That was probably about 10% yield when its share price was about $20 before year 2000. What about the dividends now? Creative, although has a net loss reported year after year, still pays dividend to its share holders. Dividends paid is only 4 cents in 2014. That is a stark difference from the 25 cents and 50 cents dividends paid last time.

When choosing stocks to invest, we should not just look at dividend yield. Even with a 10% dividend yield, dividends could drop and we could lose money.

Choosing the right stocks for dividend investing

Each of us have our own different ways of choosing stocks. We also have our own different strategies for building our investment portfolio. Some may invest more into growth stocks, some practice value investing while others go into dividend investing. No matter what, there are always some basic criteria or check list which we can look at.

1. Look for Businesses with Strong Competitive Advantage

We always need to ask ourselves why is the firm suitable for investing? Are profits still coming in and if so is there a threat that competitors can steal away its customers?

"The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage." -- Warren Buffett

When we invest in stocks, we have to think like a business owner. Investing in stocks is owning a part of a company. When we have this mindset, we would want to invest in a company that can probably survive as long as possible.

It is not easy to find stocks with competitive advantage. Some industries such as utilities and energy have greater competitive advantage as compared to industries such as F&B. Technology companies such as Creative could not create a strong enough competitive advantage to keep competition out. Once another company which has another breakthrough technology comes, Creative losses a big portion of its business and its profits slumped.

A business with strong competitive advantage can stay ahead of times and keep competition away. It is like the game of monopoly where the purpose is to dominate the entire market by buying as many properties as possible so your chances of getting money from other players is higher. If businesses can monopolise their market and keep competition out, then they have a greater competitive advantage.


2. Look for Undervalued Business

No matter how good a business is, we should not overpay for it.

"Whether we're talking about socks or stocks, I like buying quality merchandise when it is marked down." -- Warren Buffett

Everyone loves discounts. If we can buy a great company at a discount, it is a good deal. During the 2008 financial crisis, stocks were trading at extremely attractive valuations. Many blue chip companies had a PE ratio of less than 10. PE ratio is the number of years needed for investors to get back their initial investment assuming all things remain constant.

We can use Price to Earnings Growth ratio (PEG) to determine if a company is undervalued or at fair value. This is mostly useful only for small companies. The formula for PEG is PE Ratio divided by compound annual growth rate. At the end of the calculation, if PEG is 1x, it means the stock is trading at fair value. If PEG is 0.5x, it is undervalued and we can say this stock has a margin of safety of 50% (less than 1 is undervalued). If PEG is 2x, it is a sell signal. Take note again that PEG is useful only for small growth companies.

Next, we can use the discounted earnings model or discounted cashflow model to calculate the intrinsic value. This is suitable for blue chips or mature companies. There is a free intrinsic value calculator which you can download from a fellow blogger's site here. There are instructions for you to follow there. If intrinsic value is $1 and stock price is trading at $0.50, this stock is said to be undervalued with a margin of safety of 50%. However, do note that blue chips companies normally trade at a fair price rather than a bargain price.

For companies which relies on its assets to generate income, such as REITS and property counters, we can look at it net asset value or price to book ratio to determine if the company is trading at a discount or otherwise. If a stock price is at $2 and its net asset value is at $4, then the company is deemed to be trading at a discount of 50%. This seems like a good buy at first glance. However, it is always not that simple as companies would include assets, such as development properties, as part of their assets. We should exclude the development properties and assume they are not sold. A company's assets will be further broken down under the notes to financial statement.

Below shows the balance sheet of Capitaland:

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In the balance sheet, we can see current assets and non current assets. Development properties is listed under current assets which we may exclude. If we want to look deeper into the types of assets, for example under the property plant and equipment, we can go to note 3 as stated in the balance sheet. When we go to the notes to financial statement under point 3, we will see the below information:

Click to enlarge

The break down of Capitaland's property plant and equipment can be seen under the notes to financial statement. To analyse companies at a deeper level, it is essential to refer to the notes at the back of an annual report. 

If you're unsure of how to read financial statements, you can refer to my guide below:

• The Income Statement
• The Balance Sheet
• The Cash Flow Statement

3. Beware the temptation of high yields/dividends

When investing for income, we like to see good dividends which translates into high yields on our investment. Imagine if the yield is 10%, every $10,000 invested will give you $1000. It is really tempting to go for high yields. However, as investors who invest for income, even though high yields seems attractive, we should not jump straight into in.

Jumping straight into a high yield stock is like jumping into an ocean without knowing if its water is shark infested. It all seem good from the outside but if we look deeper, there may be dangers lurking ahead. A company which pay out high dividends have to get the money from somewhere. It can be paid from its income or it can be paid from its existing cash.

There are a few questions we need to ask ourselves when investing into stocks for passive income.

1. Where does the company pay its dividends from?
2. Are the dividends sustainable? Will the company continue to grow?
3. What's the trend of its past dividend payouts? Is it increasing or decreasing year by year?

Since we're investing for income, we want that income to be sustainable and even better if its increasing yearly. Look at the company's business structure for clues on where they derive its income. If income is not stable, most likely the high dividends are not sustainable as well. This is especially so for REITS where their income is derived from rental collected.

4. Understanding The Risks of a Company

Sometimes, companies can take on a huge amount of debt in order to expand the company and drive up profits. It is crucial to understand any risks which might come from taking on too much debt and keep track of how a company is performing by reviewing its financial results as and when available. A business with a strong competitive advantage can use debt to its advantage while a business which is cyclical in nature may succumb itself to danger when situation turns bad for them.  

Also, companies may have a high dividend payout ratio to attract investors when they just started out but this dividend may not be sustainable. A lower dividend payout ratio is generally preferred as these companies can still raise its dividends even if its profits drop later. On the other hand, a company which has a high dividend payout ratio will suffer cut in its dividends when profits drop. However, this will not apply for REITS which have to payout 90% of its net income after tax to shareholders. 

I hope the 2 part series on dividend investing has given you some insights on how it is possible to generate passive income through it and also the strategies in selecting dividend stocks. Market has been volatile recently. Dividend investing is still a better choice as we shareholders get dividends even during a bear market. Nevertheless, do invest safely in the right stocks!

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Related Posts:

1. 4 keys to better stocks investing

2. How to pick stocks (Part 2) - The profitability of a business

3. The Top Down Approach To Investing

My First Experience Speaking as a Blogger

Last week on Saturday, I presented a topic on accumulating wealth for your future to a small group of people at an event organised by a group of young working adults who have the heart to reach out to young people to increase financial literacy. There were 3 speakers and each of us presented for 30 minutes followed by a forum where the audience could ask us questions.

This picture was taken just before I went up to the hot seat:

Even though I've been writing on financial stuff for the past 2 years, giving a talk on finance is still my first time experience. I would never have thought that one day I would stand up on stage to inspire people on the importance of financial planning.

The main gist of my speech is to change our mindset towards money. I said that if we can get money out of our lives, we would be able to pursue the more important things in life. Many people are just too burdened by money problems where they cannot pursue their real life purpose.

I shared a video which showed that kids will always smile when asked what they want to do for their future while adults feel stress when they think about their future. Kids would say their dream is to help others while adults will aim for money, status and material possessions.

Have money also must have time, have money also must have health, have money also must be happy. These were the thoughts I implanted to the audience last week. If we pursue money and end up sacrificing too much of our time, our health and our happiness for it, then it doesn't make sense at all.

So what's the strategy to have both money and time? The answer: "financial independence or freedom". The way to gain financial independence or freedom is through creating passive income. When we can live on our passive income, we are said to have achieved financial independence. Even when we are not at the financial independence stage yet, having passive income still allows us to have a little more freedom in life. It helps to lessen our burden in life. I shared on my journey in creating passive income and how it is possible to do it.

Lastly, I shared on 3 simple ways to create passive income. I've actually wrote quite a few articles on passive income on my blog before so its really nothing new for readers who've been following my blog.

What are the 3 simple steps?

1. Start saving up to buy assets

We always need to start with saving money. I spoke about auto transferring your money to another bank account. I've listed down the steps to set up an auto fund transfer. You can read it in this post: Readers' Challenge - Cutting Down Your Expenses in 2015 To Save 50% of Your Money

2. Learn how to create passive income

Passive income can come from different sources. I shared 5 of the more common sources where passive income can come from. They are: "properties, stocks, bonds, intellectual property and business".

3. Start as early as possible

Compound interest is powerful. Albert Einstein describes compound interest as the eighth wonder of the world. Learn more about compound interest in this post: The benefits of investing when you're young


Overall, it was a good experience speaking for the first time on finance. Thanks for those who came up to me after my talk and gave me encouraging words. Securities Investment Association of Singapore (SIAS) was there too and they kindly invited me to speak for a youth event which they would be having later part of this year. I guess this won't be the end of my speaking engagement now...

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The Power Of Dividend Investing [Part 1]

There have been a number of emails from readers asking me how to calculate or get a decent dividend yield from investing in stocks. I've always subscribed to the idea that creating passive income is important in our lives if we want to achieve financial independence. We could then keep all our earned income and spend on our passive income to be self sufficient.

Investing for income or dividend investing is a good way to create passive income. This method has worked for many people just like how it has worked for me so far. Having extra money coming into our bank account every now and then is not a bad idea at all. I've always had the habit of transferring a portion of my salary to my other bank accounts. I make this process automatic so it is effortless on my part. Then, I can spend the rest of the money left in that one account.


Transferring out my salary but still have more money

I transfer a big part of my salary out from my bank account every month right after my salary comes in. When I do this, magic starts to happen to this account. At first, the money in that bank account seems to be decreasing but as time passes, the money in that account grew even though the automatic transfers were still happening. This was the result of creating passive income.

This was essentially what I did:

You can replace the overseas holiday with any other expenses which you might have. After transferring a big portion of my money out every single month, my account still grew to the point that I could now afford an overseas holiday to Japan, Europe or even the US without saving up.


If you want to enjoy,  go create it!

Too many people are just spending all their earned income in order to enjoy life. If we do that consistently, we will be broke all our lives. If you want to enjoy, go create it instead. By creating, I don't mean trying to earn more active income again. It is important to grow our active income and increase it but there will always be a limit on it.

If you can earn more active income but still have the time for other more important things in your life, go ahead and do it. If you take on an additional part time job on top of your full time job, sacrificing away your family time, it doesn't seem like a wise choice. Dividend investing for passive income can help us have more money and at the same time have more time.


The Power of dividend investing 

Dividend investing is a powerful concept. Most of us know Warren Buffett as a value investor but he is actually also a dividend investor as well, or we should say a dividend growth investor.

Warren Buffett's top 5 holdings are:

• Wells Fargo
• Coca-Cola
• American Express
• IBM
• Wal-Mart

All of the five stocks above pays dividends. Wal-Mart has paid increasing dividends for over 40 years. Coca-Cola has paid increasing dividends for over 50 years. Stocks that increases dividends for the long term is a good choice for a dividend investor. Moreover, a company that can increase dividends may mean its profits increases as well which leads to stock price increasing. Dividend and growth sometimes do go hand in hand. 

Singapore Stocks for dividend investing

Some of us are not too familiar with the US market so let's start with the Singapore stock market. Are there companies which has paid increasing dividends over the years?

Yes there is. Let's look at some Singapore stocks and how it will turn out if we had invested in it over the years.

Starhub

Starhub is one of the 3 telecommunication companies in Singapore. Its no doubt a dividend stock paying dividends to shareholders every quarter. In 2005, Starhub paid a total of 6.5cents in dividend. Fast forward to 2014, Starhub has increased dividends to 20cents for the whole of 2014. 

In 2005, Starhub's share price was trading at just $1.30. Today, the price is at $4.05.  If we had invested in Starhub back in 2005 and hold it all the way to now, we would be getting a dividend yield of 15.4% (based on a price of $1.30) and also the value of the stock price has increased by 3 times. $5000 invested in 2005 would become about $15000 now and we would still be getting about $800 dividends annually from the initial $5000 invested.  

Sembcorp Industries

Sembcorp industries is an energy, water and marine group. It has paid dividends every single year for the past 16 years. In year 2000, it paid total dividends of only 10 cents while today, it is paying dividends of 22 cents in 2014. Stock price was trading at around $1.70 in year 2000 and has increased to a high of $5.50 in 2014. 

$5000 invested in Sembcorp industries would have grown to $16000 in 2014. We would also be getting an annual dividend yield of 12.9% base on the price of $1.70 bought in year 2000. 

Jardine C&C

The most amazing dividend investing story would be from this company. Jardine C&C is a well know stock among investors especially for its high price of $36 now. At its peak, the price was more than $50. Jardine Cycle & Carriage engages in motor vehicle retail, distribution, and after-sales service.

This company has paid dividends for the past 23 years. In 1993, total dividends paid was 10 cents. Today, in 2014, total dividends paid add up to $1.08 in total. This is more than 10 times increase in its dividend payout. Stock price was trading at $3.80 in year 2000 (I only have the data from 2000 onwards). Today, price is at $36. Dividends has increased 10 times while stock price has increased about 10 times too. 

$5000 invested in Jardine C&C would have grown to $50,000 now and we still get about $1300 in dividends annually. This is a 28% dividend yield on the initial invested capital. 

Parkwaylife REIT

Parkwaylife REIT is a real estate investment trust which owns hospitals such as Mount Elizabeth and Gleneagles. It has paid dividends for the past 7 years with dividends at 7.4 cents in 2009 growing to 11.4 cents now.  Its stock price was trading at $0.76 in 2009 and $2.31 now. 

If we had invested from 2009 till now, we would be getting an annual dividend yield of 15% based on the purchase price of $0.76. 

Dividend yield of more than 10%

From the above examples, we would be getting more than 10% or even 20% dividend yield if we had bought and kept those dividend stocks for the long term. However, not all stocks have increasing dividends and increasing stock price. There are many stocks which performed poorly over the years with decreasing dividends or even cutting dividends off completely. Share price would also drop as a result. 

The challenge would be to research and find the stocks which have the potential for long term dividend play. In the next part of this post on the power of dividend investing, we'll look into some of the selection criteria which we can possibly use and the strategies to build a dividend portfolio.

Read Part 2 here: http://sgyounginvestment.blogspot.sg/2015/07/the-power-of-dividend-investing-part-2.html

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Saving For Retirement or Creating Income For Retirement?

Let me tell you the truth, saving for retirement no longer works in Singapore. If you're living in another high cost of living city like Singapore, most likely your money saved up for retirement isn't going to last you a long time too.

1 Million dollars isn't going to last very long for a lot of people. During the national day rally by our prime minister last year, a poll was conducted to ask the audience how much money do they think they need a month for retirement. Most agreed on the sum of $3000 on average. If we were to spend $3000 per month during retirement, 1 Million dollars is only going to last us about 27 years. This means, if you stop working at age 55, your 1 Million dollars will run out by the time you're 82. With longer life expectancy now, most of us are going to be still alive at the age of 82. If you have less money to retire, retirement is probably going to be painful for you.

Fortunately, there is always a workaround for every problem. If we know that we can't follow the traditional way of saving up for retirement, then its time to explore other ways.

Let me illustrate to you the difference between saving up for retirement and creating income for retirement.

We as Singaporean love durians. So, let's use durians as an example in this illustration.

If we save for retirement, its like we are accumulating durians all throughout our lives and consume it only when we stop working.

How long can the durians we accumulated last us? 1 year? 3 years? 10 years?

Now, how about we rack our brains a little and instead of accumulating durians from other durian trees, we plant our own durian trees?

How long will the durians last this time round? Unlimited and perhaps infinity?

Don't Just Accumulate Money, Create Money

A durian tree produces durians that can possibly last a lifetime. You might be thinking a durian tree can die so what happens to the fruits later? The trick is we can keep planting durian trees and if one dies, we still have others to rely on. As with multiple durian trees, we can also have multiple streams of income.

Most people accumulate money from other money trees. This money tree is probably from your company which pays you everytime you work. However, most people do not know that it IS POSSIBLE to plant their own money tree. By doing that, we have created money (fruits) for ourselves that can last a life time. 

If we save $1500 per month and invest it at a 5% rate of return, we would be able to create a passive income of $3000 per month after 26 years, base on a 4% withdrawal rate.

If we save $3000 per month and invest it similarly at a 5% rate of return, we would be able to create a passive income of $3000 per month after 17 years, base on a 4% withdrawal rate.

The 4% withdrawal rate means we invest in a stable asset which gives us a consistent yield of 4%. This rate is known as the safe withdrawal rate which is the maximum rate at which you can spend your retirement savings, such that you don’t run out in your lifetime.

Most of us, if we start planting our money tree in our 20s, will be able to enjoy an unlimited flow of $3000 per month in our 50s. You need to save at least $1500 per month and invest it at a 5% rate of return for it to become a reality. You either save more or increase your rate of return to accelerate the process. It can even be achieved in your 40s.


Insurance products for retirement?

If you're depending on the insurance you bought for retirement, you'll regret when the time comes. Most insurance products are for INSURANCE. That is the sole purpose of buying insurance. Some people use endowment policies as a form of savings but if you realise, even after putting your money inside the endowment policy for 25 years, you still don't get much money back.

The reason is because endowment polices mostly generate only an average 3% yield and there is also an insurance element in it which is paid as expenses. For example, assuming every $1 you pay for an endowment policy, 80 cents goes into a life fund as savings which yields on average 3% and 20 cents goes into paying for the insurance coverage. The 20 cents paid can never be retrieved back. It is expenses paid. This is similar for a whole life plan.

What happens when you get that lump sum back in your retirement years? That lump sum is just like the basket of durians in the earlier example above. How long can it last? If you draw out $3000 monthly on a $250,000 lump sum, it can only last you less than 7 years. The question is, will you even get back $250,000 on your insurance policies?


The Creation of CPF life

Knowing that Singaporeans are living longer and a sum of money cannot be enough for retirement, the Singapore government introduced CPF life as a form of annuity which pays us monthly income during our retirement years (65 years old) for the rest of our lives. This is as if a durian tree has been planted for us. It provides the money we need for our monthly expenses for life. Previously, Singaporeans could draw upon their CPF savings for only 20 years.

However, there will still be limitations of this scheme. The maximum amount of monthly income we can get now is $1750 to $1900 if we put in the maximum allowed enhanced retirement sum of $241,500. If you want a monthly income of $3000 for your retirement, you still have to find other alternative ways to create that extra $1100 of income for yourself.

That being said, if we want a stable flow of income of $1900 per month during our retirement years, we should definitely utilise the new CPF life enhanced retirement sum. $241,500 is not a lot of money to get $1900 for life. If we want to create a similar amount of monthly income on our own, we need to save up about $580,000 to get $1900 per month, base on a 4% withdrawal rate. It is more than doubled the amount required as compared to CPF life.

Now, assuming that the retirement sums in the CPF life scheme will go up over the years, we could possibly put in more money to get a $3000 or more monthly income in the future.

Earn more, save more, plant the money tree early. That's the formula for creating income for a lifelong retirement.

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Income and Expenditure From January to April

Its the time of the year again to review my income and expenses for this new year 2015. Reviewing my financial situation once every 4 months is certainly not too much work to do. The bulk of the work will be the recording of my income and expenses everyday in order to track it. This is what I've been doing for the past 4 years.

Here's the familiar chart which shows my financial journey from January 2013 till now:

The year 2015 has been a good year for me so far. I've all along set out to create passive income apart from the income I have from my job. Passive/other income has been rather consistent for the past few months. In April last month, passive/other income increased substantially which was a surprise. This came from dividends of the many st

As the saying goes, when our income increases, our expense increases as well. Last month, even though passive/other income increased, expenses increased as well due to my phone dying out on me and I had to replace with a new one. One thing to confess is I succumbed to the temptation of buying the latest Samsung S6. However, I could still save more than 100% of my salary just because I created passive/other income. This is what I wrote in a previous post: Spending on Luxuries The FIRE Way

Moving Forward

Creating multiple streams of income is what I've been trying to do since 3 years ago. After entering the workforce, I realised nobody is immune to the fact that we could lose our jobs anytime. I've seen a few instances of restructuring that caused hundreds of people to lose their jobs. It could be worse when a financial crisis hits. Having multiple streams of income will cushion this impact of stress in the event we lose our income.

Another reason for creating multiple streams of income is for financial independence or freedom. Not only will I not be afraid if I lose my job, I also have the freedom to choose whether to work or not to work. This is the freedom of choice. For my life, I realised that after I have more passive/other income, I no longer worry about money matters. It gives me more freedom to spend knowing that my financial state will still be in good state even after spending on luxuries.

Moving forward, the way to create more passive income is to save up and invest more. Right now, I've only invested about 40% of my investment capital in the stock market. If I bump it up, passive income can be doubled. With a savings rate of >100% or close to 100%, my money grows faster every month and year. The next move is to reinvest the passive income so it gets compounded. However, to invest heavily when the market is at a high will not be a wise move. I will invest more when some opportunity presents itself.

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Spending on Luxuries The FIRE Way

Leave the boring retirement topic behind for now. Life is meant to be enjoyed and we should live it to the fullest. Why save so much in our early days and live a miserable life only to find that we still do not have enough money for retirement?

Yes, it is happening even in Singapore. People who scrim and saved in the past still do not have enough for retirement. This somehow prompted young people to spend all their money since they see that even if they save money, they would still not have much money anyway.

You see, the problem above can be explained mathematically. If you earn $2000/month and save $1000, will you have a lot of money? You may be saving 50% of your salary which is a very good thing but if we take the $1000/month savings and fast forward it to 30 years later, it is only $360K. Does it seem like a lot of money to you? It sure doesn't seem like a lot to me 30 years from today.

Therefore, even if we save 50% of our income but have a low income, its not going to make a lot of difference. However, this can be solved by a simple solution. Before we go into the solution, let's understand a new term which I came across recently called FIRE.

Credit: http://hummingbird88-stock.deviantart.com/art/BBQ-Fire-Stock-12-104756855

What is FIRE?

FIRE in its full form is know as "Financial Independence, Retire Early (FIRE)". It is a concept which has been discussed and expanded on by some financial bloggers in the west.

Gaining financial independence and retiring early cannot be done through savings alone if our income is too low. We can enjoy some luxuries and still gain financial independence and retire early. How do we do it?


You can spend on Luxuries the FIRE way

How do we reach FIRE status and still enjoy luxuries? This can be explained using a simple mathematical illustration. Let's go back to the example of saving $1000 with a $2000 salary. In this case, we only have $1000 to spend per month and still end up with only $360K savings 30 years later.

If we increase our income to $4000/month and save the same 50%, we would be able to save $2000 and end up with $720K 30 years later. It doesn't end here, the good news is we can spend $2000/month now instead of the $1000/month previously and still have more money 30 years later.

If you did not manage to understand how the above mathematical illustration works, read it again. I'm going to expand on a deeper concept below but you must first understand the concept above. Once you're ready, let's continue.


Spending on Luxuries and still save 100% of income

The road to financial independence or freedom is not about living a poor man's life now so you can be a rich man later. Yes, saving money is important but the truth is we can't save much from scrimping on the little things. What we need to do is to focus on increasing our income but at the same time make sure we do not overspend above and beyond our means.

Many years back while I was still a student, I came across a concept which said "if you want to enjoy luxuries, create the income for it". This income should not come from our main employment but from secondary sources (aka passive income). For example if we want a car and the monthly cost we have to pay for it is $1000/month for a certain number of years, we should create a secondary source of income to fund it. That's not all. Once the secondary source of income is created, it can be permanent and even after fully paying for the car, we still have that source income coming in every month. Now we got the car AND the extra income.

That was such a powerful concept that it stuck with me to this day. Now the question is, how do we create the secondary source of income?

There are a few ways to do it:

1. Create secondary income through properties

Investing in properties and renting out is one of the most common ways to create a secondary source of income. Many people in the world do that. The best thing about investing in properties and renting out is your tenants pay for the property and at the end, the property belongs to you. Not only do you get rental cash flow every month, you own the asset too.

However, the problem with investing in properties in Singapore is the high cost involved. Buying a private property cost more than $600K to $1 Million dollars. With a 20% down payment rule, this would set us up to more than $100K in upfront capital. This would not be easy for young people who just started out in their careers but is definitely a consideration when we have more money.

2. Create secondary income through stocks

Investing in stocks will give us a secondary income stream through dividends. REITS can be one popular way to get passive income. A REIT, also known as a real estate investment trust, has a portfolio of properties which they rent out to collect income. Buying a share of the REIT makes you a shareholder of the many properties that it has. For example, if you buy the shares of Capitamall (renamed capitalandmall) or Suntec, then you actually become a shareholder and own part of the shopping malls you see at City Hall, Tampines, Jurong, Woodlands and many other parts of Singapore. Some of these Reits have properties in other parts of the world too.

The rental collected is distributed to all the many other shareholders and each will receive a portion of the income according to the number of shares they own. Reits listed in Singapore typically pay a range of 5-8% in dividends. If dividend remains constant, the lower the price you buy a share of the Reit for, the higher the expected dividend yield will be. The best thing is you don't have to manage the property to get the rental. The Reit manages it for you.

Besides REITS, we can also consider stocks of other companies to invest. You can read the below 2 articles on stocks investing:

How to pick stocks (Part 1) - Economic Moats
Buying the company on the streets (Part 1) - Discovery stage

3. Create secondary income through your talents

Finally, we can create secondary income source through our talents. I always believe that everything we do, even if its just a hobby, can be turned into a potential income source. Do you like craft making? Maybe you can make some of your own products to sell. There are just so many other possibilities which we can explore on. Think about what you are good at and think about how you can create value for someone out there through it.

One thing to note is don't focus on making money first. Focus on adding value or providing good service in whatever you want to do. As a result of adding value, the money will come later.


The End Result

Let's go back to the example of the $4000/month income. After saving $2000, this leaves us with $2000 to spend. If we manage to create an additional secondary income source of $4000, we now have $6000 to spend and still have $720K at the end of 30 years. In the end, we may not even spend all the passive income which would mean we can possibly retire with more than a million dollars without having to forgo all luxuries.

Its time to take action if we want a better future.


Epilogue - Do you really love luxuries?

Last year September, I wrote a post specifically on luxuries. I shared my experience of luxuries and also said the following:

"You see, luxuries can be a drug. It is addictive and there will be problems when over consumed. Remember the first time when you took a sip of good coffee? What was the feeling like? You do feel a boost and feel more awake as what coffee will make out of us. But those who drink too much coffee will always say that coffee doesn't have an effect on them any more. They are numbed to the effect of it. Similarly, if luxuries are consumed on a daily basis, it loses its effect which is suppose to make us feel good.

When luxuries loses its effect, you'll never be satisfied or happy no matter how much you have. It then becomes an addiction to seek even more luxuries where people are willing to borrow money to indulge in it. Over borrowing for a car or a condominium more than what you can afford are signs of over dependence on luxuries to make you feel happy. Some even borrow to travel luxuriously, borrow to buy branded goods. The list goes on." 

You can read the full post here and find out what luxury I experienced: Your Perspective of Luxury and an Experience. Now, do you really love luxuries?

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Readers' Challenge - Increasing Your Active and Passive Income

In the previous readers' challenge, I gave a challenge to save 50% of your income by setting up an automatic fund transfer. However, saving money has its limits if our income is too low. Therefore, increasing income is also important. But don't get me wrong. You still must focus on saving money if you've not done so. If you already have the habit of saving, then increasing income is the next step for you.

There are many ways to increase our income both in active and passive terms. Active income means the income we earn from our active work where we exchange time for money. Passive income means the income we earn from money working for us. Hence, we can basically earn money in two ways, we work for money or money working for us.


Increasing your Active and Passive Income

Increasing income is not as straight forward as saving money. It takes time to build up our capacity to earn more. But, once we have built it up, it becomes easier and easier.

Here are some ways which I think can potentially increase our income:


1. Upgrade your Professional Skills 

Upgrading our skills set is probably the most basic thing that we can do to increase our active income. Taking up relevant certification courses will enhance our profile which may get us a higher paying job.


2. Learn Communication Skills

Certification will only help us to gain entry into a job. Whether we will excel in our career will depend a lot on how we interact with people. Do you interact well with your boss? If you're a manager do you interact well with your staff? In our work, we probably can't do everything alone and have to depend on some of our other colleagues to get a job done. Good communication skills will definitely help us to work better with other people.


3. Expand your Network

The people we know in our lives will determine our future. Building up meaningful relationships with people in our industry may prove to be useful somewhere in the future. If you choose the right network to build upon, your chances of success can increase a lot.


4. Discover and Build on your Passion

Passion is a powerful force. I've written a few articles on passion in my blog and am an advocate of finding your passion in life. Passion makes us excel in the things we do. We spend hours upon hours on something we are passionate about. A person who's passionate in art will spend many hours drawing. A person who's passionate in sports will spend many hours training and sweating it out. The end result is they become so good at it that people notice their talents and approach them. They get opportunities from everywhere.

If you've yet to discover your passion in life, take some time off your busy schedule and think about your interest. What are the things in life that makes you excited? Keep searching and never give up. Finding your true passion will make your life more meaningful instead of just living everyday without a purpose.


The Challenge - Start another Stream of Income 

Focusing on increasing our current income is important but have you thought of starting another stream of income? Some of my friends I know still teach tuition apart from their full time job. Some are doing their own freelance jobs such as selling property or even health products. Others like me are blogging and writing which happens to earn some money apart from the passion which started it.

Doing a side line job is a good way to have another stream of income. But, the problem is it takes up our time and time is limited in our lives. We still need time for our family, our friends and our own rest and recreation needs.

Apart from doing a side line job which is an active income, we can start another stream of income by creating passive income. Passive income is money working for you. This can be done through investing in property and collecting rent from tenants, investing in stocks and collecting dividends, creating a product/intellectual property and collecting royalties.

Actions to take for this challenge

1. Start a side line job if you have the time

Apart from teaching tuition, those of you who like to write can also be freelance writers who get paid perfor every article written. Those who can do web site designing can also be freelance web designers. Or you can even be a freelance translator, proofreader etc. Check out Elance for freelance job opportunities.

2. Learn how to invest to create passive income

You can invest in virtually everything. You can be an investor in a business, invest in stocks, invest in properties etc. One thing to take note of is to invest in something within your circle of competence. Putting your money into something you are not familiar with is never a good idea.

3. Learn to create your own products/intellectual property. 

A good way to start exploring is to know what you are interested in. Examples of people who have created their own products are book authors who have the passion to write on specific topics, singers who record their own album, artist who create stunning art pieces.

4. Sell your own Stuff

There are many avenues to sell any kind of products online now. Got some unwanted clothes, gadgets, accessories that you want to sell? You can try this app called Carousell where you can sell virtually anything. It is quite popular now that I hear many of my friends talking about it. You can just make a couple of hundred dollars just by selling your unwanted stuffs at home.

Are you ready to take up the challenge? Try some of the ideas above and you'll be on your way to a richer life.

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