Build your own financial fortress

For all the peripheral reasons one might get involved in investing, the foremost priority is almost invariably to accumulate wealth. Obviously, goals vary greatly: from a comfortable retirement through to aspirations of becoming the next Rupert Murdoch. But nearly all of us are in the game for the pleasures and peace of mind that a few extra dollars can buy. But how should one go about the process of accumulating and investing? It's no good just throwing some spare dollars at this investment or that, hoping it all comes together over time. You need to have a sound strategy to stay on course, repelling anything or anyone that might encourage you to veer onto another track.

If your aim is to build some wealth, achieve independence and have rock-solid finances, then you need to build a financial fortress - a citadel capable of withstanding attacks from competition, inflation, taxation and every other devious way that capitalism and society attempt to erase your claims on its productive assets. When a broker rings up and says 'Buy Savage Hordes Mining because it's about to go up', you'll instinctively refer to the main aim -  'How does this help me build my financial fortress?' - and act accordingly. Keeping this theme in mind and applying it consistently over decades will make your financial goals much more achievable. So let's take a look at some useful guidelines for building your fortress.

1. Never, ever go back to square one

We've all seen the advertisements, the longer you leave it to start investing, the less enjoyable will be your retirement. Losing all your dosh through bad decisions or bad luck means you must start again, and you must settle for less. And if you thought it was tough the first time around, try doing it all over again.

Whether you've just saved $5,000 for your first share portfolio, or have millions in assets, the most important rule for an investor is never go back to square one. It's a simple rule to follow - just don't put yourself in a situation where that might happen. We feel horrible when we hear about people losing everything in the Westpoint collapse - following this rule will prevent you from ever placing your financial future in the hands of just one or two companies.

2. Spend less than you earn

Mr Micawber summed it up in Charles Dickens's David Copperfield:  'Annual income twenty pounds, annual expenditure nineteen nineteen six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds nought and six, result misery.'

It might seem obvious (in spite of the old English currency), but it's a rule that, as a nation, we've collectively forgotten in recent years. Unless you're into your retirement years, with your fortress already constructed, then the best way to achieve financial independence is to save money. There are many excuses for why you should have everything now at the expense of something for tomorrow, and the credit card companies will take every opportunity to remind you of them. But excuses will not buy the bricks necessary to keep the barbarians out.

Forgoing those extra little luxuries today might be hard, but the consequences of not saving will likely prove much more punishing in the years ahead.

3. Have realistic expectations

Despite what those trading software advertisements may claim, you're most unlikely to be able to compound your money at 25% a year indefinitely. The stockmarket returns nothing like that in the real world, not over the long run. If you're managing to sock away $100 a week - roughly $5,000 a year - you'll never afford a harbourside mansion. Better to aim for a nice shack up the coast than risk it all on a gamble. Either that, or find a way to save significantly more each year.

4. Never invest in anything you don't understand

It's all too easy to be tempted into the Next Big Thing, which will shower untold riches on prescient investors that Get In Now. But the hype in these situations almost always runs ahead of the prospects.

A useful guiding principle is never invest in anything that you don't understand. And by 'understand', we don't mean just having a broad idea of some important issues; you need to have a comprehensive understanding of the factors that will drive the failure or success of an investment.

Here, you have the analytical resources of The Intelligent Investor working to help you out. But having the discipline to say 'I don't understand this' is an essential part of your arsenal. It's a discipline used by all of the world's most successful investors. And we do it all the time, which is why this publication shies away from many stocks involved in biotechnology and other complicated or fast-changing areas.

5. Buy quality

The constant temptation is to buy what you think will go up next week. A better use of time and money, however, is to buy what you're very confident will go up over the next decade or two. It pays to have the bulk of your money invested in high-quality companies run by top-notch management, whether they are blue chip or second-line stocks.

The advantage of buying quality is that you can hold on for the long run, which gives you significant taxation and brokerage savings. And if you do enjoy buying speculative stocks every now and again, know exactly why you buy them and limit them to that percentage of your portfolio you can afford to lose.

6. Reinvest dividends

This doesn't mean you have to use a dividend reinvestment plan, although that can be a great way to do it. It just means that dividends should be added to your regular savings and invested over time, rather than frittered away on beer or outdoor furniture. The beauty of this is that you'll end up investing more each year without having to work any harder to do it. One of the best ways to make sure you don't  'accidentally' spend your dividends is to have a separate bank account for dividends and investment purposes only. That way, you won't spend your dividends on a fancy dinner without the associated guilt, and we all know how guilt can cause indigestion.

7. Always strive to make financially savvy decisions

Maybe you have a mortgage but are also invested in the stockmarket. Assuming a 7% interest rate on a non-tax-deductible loan, someone on a high tax rate would need to earn more than 10% on their stockmarket investments to be better off than simply paying down the mortgage. And we don't know any investments offering a risk-free return of more than 10%.

There are plenty of other areas you can put your financial savvy to work. When it's time to buy a new fridge, perhaps it's worth coughing up an extra $200 for the energy efficient model that saves you $50 a year in electricity - the upfront investment will pay dividends over the long term. If you drive long distances, it might pay to spend several thousand dollars to convert your car to run on natural gas. Or maybe you lose $50 on the pokies most weekends, despite knowing the odds guarantee that you'll lose over time. Making smart financial decisions, even seemingly small ones, and investing the savings will make a big difference over a few decades.

8. Avoid debt

We probably don't need to repeat this. After all, you've read rule number one. But it can't hurt to say it one more time: be very careful with debt. As a general rule, nothing you do with non-tax-deductible debt is likely to help build your financial fortress, property bubbles aside. So stay away from personal loans, car loans and big credit card balances at all costs. And a half-extinguished mortgage isn't a 'well of untapped equity', as your banker might put it. It is a liability that should be paid off, so the deeds to the castle end up in your hands, not the bank's. 'Drawing down your equity' to buy a new Commodore won't strengthen your fortress.

As for tax-deductible debt, it pays to maintain extreme caution. Margin loans giveth when stocks go up, but they taketh away when stocks go down. Building a financial fortress is all about having the strength to survive the really tough times, and margin loans will hurt the most at the time you can least afford it.

9. Have fun

What's the point of money if it controls your life? All financial decisions need to clear one important test: ask yourself 'Will this action affect the soundness of my sleep?'.

Hopefully, the above advice will help you make investments that will allow you to sleep well. Stocks that keep you up at night aren't likely to be the big winners anyway. Financial independence, garnered by building a strong fortress with a deep moat around it, brings peace of mind. And that can only add to the soundness of your slumber and the quality of your remaining years.