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Beyond Compounding Interest

Melchor Tatlonghari

In the quest for financial freedom, many of us have been led to believe that index funds and compounding interest are the ultimate solutions. While these investment vehicles do offer stability and long-term growth, they are certainly not the quickest path to building wealth. Have you ever heard of a 30-year-old who became a millionaire because of index funds?

The Truth about Index Funds

First off, I want to say that I have nothing against Index Funds and the power of compounding. Albert Einstein did say compounding interest is the 8th wonder of the world. I believe it is a strong financial vehicle, my main issue is its velocity. Mathematically speaking, there are only a couple of ways you can become a millionaire in your 30s through Index Funds:

You started with a ridiculous amount of money to begin with. If you invested $500,000 by the age of 22, then by the time you’re 30, you already have a legitimate money tree. (However, procuring that initial $500k won’t be from index funds) Your parents were smart enough to invest in an index fund under your name when you were born. This means that the money has been compounding for 30 years and is now bearing fruit. That is the sad truth about these types of wealth-building vehicles — they only work if you had an unfair advantage to begin with. Otherwise, even if you started working at 22 and were financially savvy right off the bat, it would still take you 20–30 years to become a millionaire through this method. And that’s assuming the economy stays strong and consistently yields good returns year after year.

Pristine Principal

Another unspoken rule about these types of retirement plans is that they require you to live on plain interest alone while leaving the principal untouched in order to sustain growth. This means that if you’ve saved up $1 million dollars and have a 5% interest rate per annum, you can live off the $50,000 per year without touching the principal amount. However, if you lower the value of the principal, your overall yearly income will be affected. For example, if you drop it to $500,000, then your 5% annual budget becomes $25,000. And when you factor in the inflation rate of the economy, which was estimated to be a 7–9% increase in 2023 due to the pandemic, you’re essentially losing money every year just by the passing of time. And this is assuming you’re already financially savvy. If you’ve buried your money in a bank account earning less than 1% interest, then you’re already throwing money away.

Rolling the Dice: The Uncertainty of Traditional Retirement Plans

While the financial aspect of retirement planning is crucial, we must also consider the toll it can take on our health. Stress, often associated with high-pressure careers and financial worries, can have severe consequences on our well-being. Through personal experience, I highlight the risks of sacrificing our health for monetary gains and emphasize the importance of finding balance between work and personal well-being.

The only way you can come out relatively unscathed from this ordeal is based purely on luck — luck that the economy, inflation, your health, and all other external factors work in your favour. And even then, with all the luck on your side, you may be forced to live a modest life without touching your principal amount out of fear that you won’t have enough down the road. You won’t even know how many years you have left.

How does this retirement plan work? Why do we believe it’s the best way? What happens to the principal when we’re gone? Does our family get it or does the government take it all? I’m not sure about you, but I don’t want to wait until I’m in my 70s to find out. I want to live a full life while being able to provide for my family and live my best life. We all want to live our best lives in the present, not 30 to 40 years from now.

Finding the Missing Piece

I am not against compounding interest, many people consider it the 8th wonder of the world, and rightfully so. With basic mathematics and the passing of time, we can reap exponential rewards. Time in this wealth formula acts as a double-edged sword. We only start reaping the rewards towards the end of our lives. If we weren’t lucky enough to be born into a wealthy or financially educated family, we begin our financial journey in our mid-twenties or even later. By then, it may feel too late.

While index funds and compounding interest are valuable tools for long-term financial stability and growth, they are not the fastest route to building wealth. The sad truth is that these wealth-building vehicles often require an unfair advantage or a significant initial investment to begin with. Even if you start early and make wise financial decisions, it can still take decades to become a millionaire through this method.

To accelerate your journey to wealth, you must shift your mindset from being a consumer to becoming a producer. When you start creating things of value that have the potential to help millions of people, you unlock the other half of the equation.

Becoming a producer means leveraging your skills, knowledge, and creativity to generate income and build wealth. It involves identifying problems or needs in the market and finding innovative solutions that provide value to others. By doing so, you position yourself as someone who adds value rather than just consuming it.

From Consumer to Producer

Creating things of value is the key to accelerating your journey towards financial freedom. Instead of solely consuming and relying on others for your income, adopt a producer mindset and focus on creating your own opportunities. Here’s how you can make this shift:

Identify your skills and passions: Take some time to reflect on what you’re truly passionate about and what skills you possess. It could be writing, coding, speaking — anything. By identifying your strengths, you can leverage them to create valuable products or services that does not require your time to earn income from. Remember “build once, earn multiple times” Start multiple businesses: Utilise your skills and passions to launch a variety of potential businesses. Consider selling handmade crafts online, providing consulting services within your area of expertise, or creating a blog or YouTube channel focused on your interests. Throw everything against the wall and see what sticks, this is exactly why you’ve bought time. While not every thing will work, this is your chance to see what will depending on your skills and passion. Embrace Digital Platforms that enable you to build at scale: In today’s digital age, there are countless platforms available that allow you to showcase and sell your creations. Though different platforms will come and go, the internet has made it easier than ever to share your talents with the world. Whether it’s setting up an online store on platforms like Etsy or Shopify, self-publishing an e-book on Amazon Kindle Direct Publishing, or creating online courses on platforms like Udemy or Teachable — all the tools you need to build at scale are all there, you just need to make use of them. By shifting from a consumer mindset to a producer mindset and actively creating things of value, you’ll not only increase your income but also gain more control over your financial future.

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Digital Nomad