Step 1: Stabilize your economy. Buffer and Savings

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This is the first step of my private economy, saving and investing series. Be sure to read the other posts as well:

Step 1: Stabilize your economy
Step 2: Expectations and mindset
Step 3: Index funds

As a first step before we even start thinking about investing is to lay out the foundations for a stable living. A buffer and a savings account.

Savings account

My old approach to saving was pretty much ad-hoc:

1. Get paycheck
2. Pay bills
3. Go on with life
4. Receive next paycheck and move whatever was left to the savings account.

Many times it was nothing, and some months I took instead of put money into the account.

Needless to say, it felt very hard to save for something specific.

The big issue with the ad-hoc approach is that there are a lot of variables in life and even if you cut away something, it is a long way for it to actually get to the savings.

The first change to do is to change the order of things. Namely, to put away money as the first thing instead of the last. This will result in a more deterministic savings.

Deterministic savings mean a lot of things.

• You will put away the same sum each month. 
• This allows you to plan your future financial situation. 
• You can automate it, meaning that it is more likely that you keep your plan if you never actually see the money on the spending account.

It also means that if you plan to save a certain amount each month, you need to stick to the plan. After the money hits the savings account, you should look at it as if it is out of reach and not usable. We usually refer to it as monopoly cash or toy cash. It looks and feels like real money, but you are not able to use it.

If you want to increase your savings per month, try removing from the other sections by for example canceling a subscription. Do you really read that magazine? Directly when you cancel, also change your automatic savings amount. This way you actually save the money and not just use it on something else.

The buffer

From time to time, life happens and your paycheck is not enough and you need to solve the situation by going to the savings. But in the section above we agreed that the savings account was off limits, how do we solve this?

By creating an extra account, preferably an actual account in the bank. How big this has to be is up to you, but the key is to always have it at the level that you have decided.

If you need to take money from it one month, you pay it back the next before all other savings or bills.

If you need to use the buffer continuously, then you need to change some habits. Maybe cancel a subscription, skip a restaurant visit or something similar.

Conclusion

In the end, it is not that much work but quite a lot of determination to keep to the plan. The key idea being to pay yourself first before doing anything else. Start small, and grow it over time.

Continue with step 2: Expectations and mindset

Disclaimer. I am in no way an expert on capital management or investing. On this blog I only wish to share my findings, ideas and comments on current events and fields that interest me. I hope that my thoughts can entertain you. I expect that everyone reading take their time and do their own research before acting on anything read on this blog. Investing is not for everyone. E&OE.