So you want to start investing. That is one of the best decisions you can make if you want to create long-lasting wealth. With stock markets becoming more and more accessible and affordable to regular people, it is possible for everyone to start accumulating wealth in the financial markets. However, before you start putting your hard-earned money to work for you, make sure you are not leaking money out at the same time. That would be like trying to fill a bucket, that has a hole at the bottom. With an adjustment to your personal finances, you can first make a high return on your money without picking the next Amazon or Microsoft stock or taking on any investing risk. By eliminating one negative effect on your finances before starting investing, you are starting from a position of strength.
This is about credit card debt.
According to Credit Karma, the average interest rate for credit card debt is 15.96% and the average amount of household credit card debt in the US is $6929.
If you pay that off, you stop the negative compounding effect of that debt.
That is a 16% risk-free, immediate return – not bad is it.
You might think that this money would be better off invested somewhere. Let me remind you that from 1950 to 2018 US stock market returned 11.1% annually on average. And as with any investment, that comes with risks and volatility. Stock market investors need to take on equity risk to enjoy the returns from part-owning businesses. But any investor worth their salt would gladly take this type of risk-free return before starting to pick stocks.
Getting that 16% return from paying off the debt requires you to take on no risk whatsoever and it is an immediate return. There is no investment out there that can match that risk/return profile.
Taking 20 years to pay off the average amount of US household credit balance would total over $135.000 in debt repayments.
Compound interest works in favour of the long-term investor. The money earned works on top on the initially invested capital to create even more money. That is positive compounding. However, with debt it works the other way. You will have to pay more and more to service the debt if left unpaid. Credit card debt is a major drag on your finances if you let it negatively compound.
In the long run, our plan is to generate income through our investments to live on.
But we have to take care of our high-interest debt obligations first. If we are leaking money out through credit card debt, we will never be able to create the kind of wealth we want for retirement.
If you are holding any type of debt with double-digit interest rate, make it a top priority to pay it off first. It’s the first step to achieving the ultimate financial retirement goal.
After that, it’s time for the interesting stuff – making our money earn income for us through investments.
If you are interested in seeing my personal investments, you can check out my full portfolio here.
