This is How I Made $40k In Passive Income By Age 26

Jun 30, 2020

Created by the author — original image from Toa Heftiba on Unsplash

 

I’m talking here about real passive income, not the kind where you spend years writing a book. There’s one caveat though and you need money to make money.

I started investing part of my income every month at age 23. Three years later, I had made $40k in profit tax-free and could put down a deposit on my first house. All with less than an hour of effort per year. $13k per hour of work doesn’t sound bad, does it?

It’s not sexy but I relied on getting a professional job and investing my excess income. Many in my position don’t do this and sacrifice future financial freedom. You can take the profits to start up your own business with less reliance on outside help. Self-funding the initial stages gives you more credibility when asking others for more money.

My Economics bachelors and central bank experience made me confident to invest responsibly. Yet the steps I took weren’t complex and here I break down what I did.

NOTE: Lucky factors went my way with exchange rates, freak performance, and government bonus schemes amongst others. Do not read this and think similar performance can be produced reliably in the future. This is a high-level overview and I do not go into blow-by-blow detail.

Surrendered my arrogance

One of the biggest mistakes I see is people thinking they are exceptional. Investment funds have whole teams of hyperqualified people and complex algorithms. Yet 85.1% of active funds have failed to beat the S&P 500 in the last 10 years. How can you honestly believe you can win?

I bought index and active funds from the major economies rather than individual stocks. This takes the decision making out of my hands. As I’m from the UK, I invested through an ISA (the equivalent of a superpowered Roth IRA) to earn tax-free.

I spread myself out geographically with stocks in the USA, UK, mainland Europe, and Asia. My risk was dramatically reduced as I owned shares in thousands of companies. By using index funds, my fees were far lower than buying individual stocks. When I wanted exposure and index funds were unavailable, I found funds by managers with long histories.

Yes, you might miss out on the next Amazon but you’ll also miss out on the thousands of failed unicorns. Theranos and Jawbone both seemed certain to be big and each received over $500m in funding. Both are bankrupt.

Invested first and spent afterward

Every month, the same amount left my account automatically. I never considered this as spending money so it never factored into my buying decisions. I could start the account with significant savings from 1.5 years of working that were sitting in a low-interest current account.

There are all kinds of apps to encourage people to invest their savings. One of the tricks I dislike is rounding up purchases to send to the pot. You buy a cookie for 20 cents and 80 cents goes straight into your fund. This takes control away from you and leaves your input reliant on chance events. The return is already based on chance so why make it even more uncertain!

Some portray compounding as a type of sorcery. Yet 7% return per year for ten years on ten dollars is $9.67 profit. On a thousand dollars it is $967. Don’t make the excuse of something is better than nothing when you can put away more. It takes time to build a portfolio to the point where it can make a difference in your life. I had a massive advantage by living with my parents.

If you truly want passive income, you need to examine your spending habits too and decide if anything is a luxury you are happy to be without.

Never invested if I couldn’t afford to lose 50%

I could invest more than I did but I always kept some in reserve. If anything happened to me, I could cope with losing half the value of my investments. The amount you’re willing to risk can change over time and change your plans in line with this.

The worst crashes in the S&P history have taken the value to around half but they have always bounced back. We still didn’t fall below this even when news of the pandemic hit or when the financial crisis of 2008 struck. You can be confident a developed country’s stock market won’t completely self-destruct. Only a massive event could do this and then you’d have bigger problems!

Individual stocks can go to zero but it is harder for a fund to do so. You must feel comfortable with the unlikely worst-case scenario for peace of mind. There’s always a chance of great losses and you can’t blame anyone else if you lose more than you can handle. It is possible to lose everything!

Examined my opportunity costs

Let’s not pretend it isn’t a privilege to invest. Not only must you cover your expenses but also your debts. I was fortunate to have student loan debt with an interest of less than 2%. As long as I believed I could beat this rate, it made sense to invest extra money rather than paying off debts early.

Yet I know others are not as lucky. The average stock market return in the long-run has been 7% for the S&P. If the interest on your debt is higher than this, pay it off first! You have to decide your willingness to take the risk if your interest is less than this. I cannot tell you how much. I took a risk by investing in emerging economies and those paid off.

For entrepreneurs, when starting a business you should believe you can beat this rate in the long run. At the time, I didn’t have a business idea I thought would be a better path. You should be confident in forecasting significantly more than this to make the extra effort worth it.

Allowed the money to do its thing

There’s a secret of investing many people seem to forget. Looking at the numbers doesn’t magically make them increase. Interfering too much will backfire.

I thought about taking my money out several times when it looked like the peak. I thought about adding more whenever it looked like the bottom. Every time I was wrong. I would have lost wealth if I had acted. Trying to perfectly time the market will leave you anxious and constantly checking the news. Not to mention the lost income by needing to pay fees for every trade.

My investments ran on autopilot so I didn’t waste thousands of hours checking something I couldn’t change. This is dollar-cost averaging, where you put in the same amount every period in the same area. When the price is low, you buy more and when the price is high, you buy less!

What you need to take with you

Investing in the way I did gave me much greater financial freedom. I did it while working a 9–5 and fresh out of university. The hardest part is working to get the money to invest but once you have this, it’s about making the strategy as easy as possible. These are the steps I took and can help you too.

  • Surrendered my arrogance — I bought funds, not individual stocks.
  • Invested first then spent afterward — I could only spend what I hadn’t invested.
  • Never invested if I couldn’t afford to lose 50% — I didn’t put my security at risk.
  • Examined my opportunity costs — I was sure it was the best use of my money.
  • Allowed the money to do its thing — I didn’t obsessively check on it.

Thank you for reading and have a wonderful day! Remember this is my story and you must examine the risks for yourself. I have intentionally not given the exact funds because they may not perform the same in the future.

Any actions taken are completely at your own risk, this should not be considered financial or legal advice. I am not a financial advisor. Please consult a financial professional before making major financial decisions.

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