How can I afford my life

2020 was a year that will long live in our memories, nobody would have expected what happened that year. Lockdown, pandemic, everyone wearing masks and social distancing we can definitely say it was a challenge.

During that year I decided to take a step back. I took some time out to look at my investments, to review what my money was doing. I thought it would be a good time to build up my knowledge.

I started listening to an audiobook called the Intelligent Investor by Benjamin Graham. Benjamin Graham, if you haven’t heard of him, was one of the greatest influencers in Warren Buffett’s life. Warren Buffett learned a great deal from him.

To cut a long story short Benjamin Graham had an investment company where he was making a lot of money. His company invested in securities, stock, shares, bonds etc. He had a philosophy of purchasing securities that were undervalued, so they would be cheap enough to withstand the downturns of the stock market caused by factors out of his control. So even if the stock market was in decline, his investments would still be fine. He called this a margin of safety.

Benjamin Graham’s business allowed him to have a pretty lavish lifestyle that he enjoyed. Unfortunately, due to some difficulties faced in his business he made the decision to close it down.

Benjamin Graham’s biggest regret was not about the business closing, but that he didn’t apply his business philosophy to his personal life. He had a lifestyle that was not able to withstand his financial downturn, he didn’t have a margin of safety.

There was not enough of a buffer between his income and expenditure to allow him to continue his lifestyle when his income decreased. He needed a lifestyle that could withstand any economic climate.

It is commonly known that the more a person earns the more they tend to spend. In a lot of cases, some people don’t even need to earn it they just need a credit facility. It is important to know whether you have a margin of safety or not. If you do, how much is it? Here’s how to find out:

1. Firstly, print off your last six month’s bank statements
2. Let’s say you’re paid monthly; find the date you receive your salary or income each month. If you’re paid more than once in a month you may want to choose your starting point but try and work within calendar months for consistency.
3. Now look at your bank balance figure the day before you receive your income. Note that down.

The figure you have the day before you receive your income is your margin of safety. Whatever you have left on that day is your buffer. If you have any savings or other income sources this adds to the margin of safety or buffer.

What if you didn’t receive any income on pay day? What if you didn’t receive any income full stop for the next calendar month? Are you able to survive financially without the use of credit? What if your lack of income stretched for two months?

Work out how long you could financially survive without the use of borrowing or credit. It could be days, it could be weeks, it could be years. It could also be that you couldn’t survive even a single day. How large or how small is your margin of safety?

Is the lifestyle you currently have built to withstand any financial downturn in your life? Your bank account will tell you. If you have £50 left at the end of each month, you’re walking a tightrope. One sudden hiccup in your financial life may push you down the credit route which can lead you to financial (and often stress) issues. Your margin of safety is very small. If your lifestyle is supported by credit every month your margin of safety is in negative. You are on financial life support.

It’s not always easy to increase your income but you should always try to do so if you can. It’s important that if your income increases your expenditure does not. What you do with the income is key to building your margin of safety.

Just because you earn more money does not mean you should spend more. Someone whose income suddenly rises from five figures per year to seven figures doesn’t need to buy a Ferrari. I can guarantee that because they never needed it before the increase.

If they had a margin of safety with the five figures, the margin of safety should simply increase. As your income increases, the gap between the cost of your lifestyle and your income should increase positively. The larger the gap between the two, the more chance and the longer you will be able to survive any financial downturn that may occur in your life.

Investing your money into things that can help it grow like property or stocks or similar can help increase your margin of safety further. Also limiting your major purchases to things that are necessary will further increase your margin of safety. Is it necessary to buy a new Mercedes just so other people can see you in it?

Your lifestyle should not be reliant on your salary, the cost of your lifestyle should be supported preferably by profits from investments or passive income streams like rental income from properties.

Many people who receive bonuses or receive a sudden influx of cash, look for an “exit” for that money. They look to see how they can spend it, or they may have already pre-spent it on a credit card or similar.

Whenever you receive a bonus or a sudden influx of cash, pause... do not touch the money, not one penny. Leave it in your bank account for a month, six months or even longer. Let the adrenaline of receiving this new money die down completely. Get used to seeing the figures in your bank account. Only touch the money when you no longer have an interest in spending but instead, in investing or saving therefore building your margin of safety.