Preparing to Get Ready to Invest

Become financially stable, then dive into stocks.

Chapter 5 of The Neatest Little Guide to Stock Market Investing begins as follows:

Get Ready to Invest
This chapter contains the planning you need to do before investing. I discuss opening a brokerage account, putting money into it, and placing trades.

But actually, even the getting ready stage requires some preparation.

The worst mistake you can make is to approach investing like gambling, thinking it’s all about timing and luck, hoping a stock market jackpot will rescue your financially sinking ship.

No, no, no. Stocks are best considered as a single asset class to be used in a systematic framework, not lottery tickets that might score. Now and then, someone gets lucky in that way and such stories can become famous, but their rarity is exactly what makes them notable. They’re fun to hear because they don’t happen often.

The real money in stocks comes from playing the long game—sticking with proven strategies over time. It’s not about timing the market, but time in the market. In fact, with the right system, timing becomes irrelevant.

So, how do you prepare to run a long-term, methodical system that can extract profits from the stock market? By systematically preparing your household finances to support your investments.

That’s what this article is about: preparing you to get ready to invest.

Getting Out of Debt

Avoiding debt is so important that it’s the First Rule of Finance, as presented in Financially Stupid People Are Everywhere: Don’t Be One of Them:

The First Rule of Finance is to live within your means by spending no more than 80 percent of your take-home pay. ...

From this simple rule, all else falls into place. If you don’t spend more than 80 percent of your income, you won’t get into trouble. You won’t allow house payments, car payments, insurance payments, and shopping charges to exceed your 80 percent threshold. ...

Wealth springs from this First Rule of Finance. That’s why it’s first. Troubles begin the moment it’s broken. The day you commit to spending less than 80 percent of your income is the day you start getting rich. 

But if you’ve already broken this rule and find yourself drowning in debt, your first task is to get out. Before you even think about investing, you need to squash your debts, then stick to that First Rule of Finance to avoid falling into debt again.

Let’s be clear: the real debt killer is consumer debt, the kind you rack up buying things that depreciate in value or never had financial value to begin with. These include:

• Automobiles—depreciate quickly

• Clothing—depreciates quickly

• Jewelry—depreciates quickly

• Restaurant Dining—no financial value

• Vacations—no financial value

These are liabilities, not assets. I’m not saying they don’t have value in other parts of your life, but from a financial standpoint, they’re liabilities.

Going into debt for them hurts you two ways:

• It encourages you to live beyond your means.

• It adds interest costs to your spending.

Taking on debt for appreciating assets can make sense. The most common example is buying a house. Almost nobody pays cash for a house. There’s almost always a mortgage involved, and at the end of the mortgage the house is almost always worth more than the sum of its price and interest payments. In the final analysis, taking on debt to buy a house can be financially beneficial.

Even then, however, you need to be smart. If you overpay, put too little down, or skimp on insurance, you can turn a home purchase into a financial disaster.

There’s just no way around it: debt is dangerous. It’s almost always a no-no, and when it’s used to buy depreciating assets, there’s no “almost” about it—it’s always a no-no.

So, if you’re not going into debt, don’t start. If you are going into debt, stop. If you’re already in debt, let’s get you out of it.

Here are some ideas, again from Financially Stupid People Are Everywhere:

If society already caught you in its debt trap, you need to get out as soon as possible. Here are ten steps for doing so.

Discuss the ideas in this book with your family. Get everybody in agreement that it’s time to stop living in a way that benefits government, banks, and big business. It’s time to live free, and that requires swimming upstream.

Using credit card statements, bank statements, receipts, and memory, make a list of your typical monthly expenditures. Look carefully at it with your family, and cut it to the bone. Be ruthless in eliminating unnecessary spending to free up as much cash as possible.

Consider who can take on extra income-producing activities, such as part-time jobs, side businesses, profitable hobbies, or overtime at existing jobs.

Write down how much extra cash you’ll have available after cutting expenses and boosting income.

Make a list of your debts in order from smallest to biggest and note each one’s minimum monthly payment. Add up the minimums to see how much you need to pay each month to service your debt.

Consider which debts you can reduce dramatically or eliminate. For example, you might have financed a new car with unreasonably high payments. How about selling it, paying off the debt entirely, and then getting a cheaper car or no car at all for a while? You may be able to do the same thing with other expensive items you financed.

Look at the extra cash you created by cutting expenses and boosting income, the reduced debt load you created by reducing or eliminating some accounts, and the total of all your minimum monthly payments remaining. If you have enough cash each month to cover the minimums and still have some left, great! Pay the minimums and use the extra cash to build a reserve of $1,000. Once you’ve set aside that $1,000 for emergencies, stop saving into that fund and start directing your extra cash toward paying off your smallest debt entirely. Once that account is paid off, focus your extra cash on the next smallest one, and so on until all of your debt except your mortgage is paid off. Paying off small debts first is called the debt snowball method. For most people, it’s better than focusing on biggest debts or highest-interest debts first because the satisfaction of eliminating accounts from their list encourages them to keep going. Visible progress comes more quickly with the debt snowball approach, and a lot of people need to see that progress. However, if you do not require such encouragement, then reprioritize your debts from highest interest rate to lowest, and pay them off in that order. It’ll leave more money in your pocket when you’ve paid off all the accounts. Destination is more important than detail in this case, so do whatever works for you to kill your debt.

If you reduced all the expenses you can, are doing all you can to boost income, and reduced or eliminated all the debts you could, but still don’t have enough cash to make your minimum payments, it’s time to smash the emergency glass. Call every one of your creditors and explain your situation to see if they can help. If that doesn’t get you anywhere, carefully look into debt consolidation loans. Be extremely alert because that field is filled with the very swindlers you’re trying to escape, and many of them will slap on high fees and tricky interest rates that may put you farther behind. Also, be careful that you don’t make things worse by collateralizing all your consumer debt with your house — and then losing the house if you can’t keep up with payments. If none of that helps, you may need to declare bankruptcy. Don’t feel too bad. You might see the U.S. Treasury secretary down at bankruptcy court, because the whole country seems headed there.

As you pay off credit card accounts, close them until you have just one left. That’s all you need, and you’ll never carry a balance again.

If that one credit card causes problems or you just get tired of paying another bill every month, switch to a debit card. It offers the same convenience and same ability to buy things online and over the phone, yet produces no monthly bill or risk of interest expenses and late fees. It pulls cash directly from your bank account. Financially smart people keep cash in their bank accounts — and you’re going to be one of them.

Staying Out of Debt

There are many tools to help manage your budget, but for me, nothing beats a simple spreadsheet.

For a primer on this approach, along with a worksheet you can use in Excel or Google Sheets, visit the Vertex42 Income and Expense Tracking Worksheet. Vertex42 even offers a PDF for printing and completing by hand, and says it can be the first step in your journey to control your personal finances. I agree! It looks like this:

The idea, once again, is to stick to the First Rule of Finance: limit your household spending to 80% of your income and save the remaining 20%.

And yes, fun spending counts! It’s not just for necessities like food, insurance, and utilities. Those non-discretionary items are must-haves. Skipping meals to save money isn’t a long-term strategy. Everyone who’s tried it is no longer with us.

The fun stuff—discretionary spending—should also play a part in your household budget. Without it, life is not only dull but you stand little chance of sticking with a financial management plan. The psychology that kicks in to work against you goes like this: “Why am I even alive? Just to go to work to make money, pay taxes, and pay bills so I can go back to work to make money, pay taxes, and pay bills?” No! Life is for living, so add some discretionary pizzazz to your household budget.

Once you have all this under control—debt gone, regular spending limited to 80% of your income, 20% left over—you’re ready to save.

Sock Some Away

Build up a savings account. That’s the place to start. Leave aside investing assets for now and focus on the bigger accomplishment of just plain socking money away. I would say the habit of saving is worth more than the initial money itself because it’s this habit, this systematic management of money, that will lead to wealth down the line.

You first milestone should be six months’ worth of living expenses. When you get there, do something fun to celebrate (but not so fun that you blow the whole amount!). Then aim for one year, 18 months, and finally two years.

When you’ve saved enough to cover two years’ worth of living expenses, nobody can jerk you around. No boss, no coworker, nobody. The worst they can do is send you packing, and guess what? That won’t faze you much when you’ve got two years’ worth of savings watching your back.

Online guides will tell you how much you should have saved by a certain age. They play their part in financial planning, but not at this stage. You do you by determining how much you would need in order to get by for two years without income. Hit that magic balance, and you will have created an enormous sense of financial freedom all your own.

Then Get Ready to Invest

Once you’ve reached this point, then you’re in position to get ready to invest. This is when you learn about brokerage accounts and investing systems. It’s where my stock books and The Kelly Letter come in. We’ll be ready for you, and more important, you’ll be ready for us.

You know why? Because you will have developed not just a financial foundation, but also the systematic mindset needed for investing success. Redirecting that 20% from savings to investing will be a cinch.

The discipline that got you out of debt, controlled your budget, and built your savings will power the next phase of your journey: growing your money through smart, systematic investing.