what is sustainable growth rate ssr cover

What is Sustainable Growth Rate (SGR)?

While investing in a company, one of the most critical factors to look at is its growth rate. At what percentage the company is estimated to grow in the upcoming years? This is because, as the company grows & generate more profits, generally, your investment will grow along with it. Moreover, it’s not a viable strategy to invest in declining companies or the ones with no significant growth aspects.

But how to calculate the growth rate of a company?

A common approach that most investors follow is to look into the historical growth rate. Here, they try to find out the rate at which revenue, earnings, etc are historically growing, to assume a similar growth rate in the future.

Although past performance doesn’t guarantee future growth, however, it can give you a rough estimation if you expect the company to perform similarly in the future. Here, investors can use the compounded annual growth rate approach to define growth.

However, forecasting growth based on such estimations may not always be valid. Besides, the estimates can change depending on the ‘number of years’ that you’re considering. For example, past 3-years, 5-years, and 10-years historical growth rate might be totally different. Which one should the investors focus on while forecasting the future?

A better approach while studying growth is to look into the sustainable growth rate (SGR) of a company that focuses on different factors like earnings, shareholder’s equity, payout, etc to find out the growth percentage of a company. But what exactly is a sustainable growth rate? This is what we are going to discuss in this post.

Sustainable Growth Rate (SGR)

The sustainable growth rate is the maximum growth rate that a company can sustain using its own resources i.e. without financing the growth using debt or equity dilution. It is calculated as:

Sustainable Growth Rate (SGR) = ROE * Retention Rate (RR)

Where,

  • Return on Equity(ROE): ROE is the amount of net income returned as a percentage of shareholders’ equity. It can be calculated as: ROE= (Net income/ average stockholder equity). ROE shows how good is the company in rewarding its shareholders. A higher ROE means that the company generates a higher profit from the money that the shareholders have invested.
  • Retention Rate (RR): This is the percentage of net income that is retained to grow the business, rather than being paid out as dividends. Retention rate is calculated as: RR= (1 — Payout ratio) = ( 1 — DPS/EPS), where DPS is the dividend per share and EPS is earnings per share.

For example, if a company ABC has a ROE of 15% and payout ratio of 40%, then its sustainable growth growth rate can be calculated as: SGR = 15 * ( 1–0.4) = 15 * 0.6 = 9%.

Also read: 19 Most Important Financial Ratios for Investors

Ideally, the growth of a company funded by its own resources is the best form of growth compared to any other leveraged growth options. The later scenario may lead to financial stress and in the worst case, bankruptcy.

Moreover, any company can grow faster if it takes a lot of debt and spends on marketing, new product development, acquisitions, etc. However, returning that debt can be a troublesome process if it’s business model is not that strong.

By looking into the SGR of a company, Investors can find out its long-term growth, current life cycle stage, cash flow projections, borrowing & dividend allocation strategies, etc.

Maximum SGR:

According to the sustainable growth rate formula, SGR = ROE * RR = ROE* (1  –  Payout Ratio)

Here, when the payout ratio is zero, the SGR becomes equal to the ROE of the company. You can maximize the sustainable growth rate by increasing ROE or decreasing payout (i.e. retaining more earnings rather than paying out as dividends).

Note: You can also analyze the root cause of ROE further using the DuPont Analysis.

Technically, a few ways to maximize SGR is by increasing sales & profit margin, managing account payable & receivables, efficient inventory management, etc. However, a point to note here is that a high SGR is always difficult to maintain. As the company matures, it cannot sustain similar high past growth rates.

Closing Thoughts:

An efficient management’s goal is to grow the company at its sustainable growth rate.  If the SGR is 15%, the company can safely grow at this percentage per annum without taking any additional financial leverage. It can be considered the ceiling growth rate of a company while using its own resources.

What is Porter’s Diamond Model of National Advantage

What is Porter’s Diamond Model of National Advantage?

Porter’s Diamond Model has been the exemplary work of Michael Porter, who first published about this economic model in his book, “The Competitive Advantage of Nations” (1990). This simple but effective model aims at explaining the cause behind the reason as to why one nation tends to be more competitive than other nations in relation to a particular industry. This book also tries to look into the matter of innovations in businesses that may be more conducive to one nation and might not be possible in others.

Porter’s Diamond Model, also known as the Theory of National Advantage, is used by different economic institutions to calculate the external competitive environment. This analysis helps in giving us an understanding of the relative strength of one business than the other. On analyzing the external environment, the causes for industrial advantages for some businesses in a particular place or region can also be deciphered. In simpler terms, the Porter’s Diamond Model attempts to answer the following basic questions:

  • How does one nation end up being the most competitive in regard to a particular industry?

In Porter’s model, this nation is referred to as evolving into a home base. Some examples that we can illustrate are that of ‘China’, being the home for the production of cellphones, Germany as being the home base for car manufacturing, etc.

  • How are companies of a particular nation or region able to sustain the advantages produced by competitive economies in a certain industry? 

Porter’s Diamond Model

The answers to the above – mentioned questions lie in the determinants identified by Porter that generates a competitive advantage as mentioned above. The four determinants enumerated in Porter’s Diamond Model are as follows:

Porters Diamond Model four determinants— Factor Conditions:

Factor conditions relate to the different types of resources that are present or absent within a nation. Resources can be typed into basic and advanced ones. The basic ones include useful natural resources and the availability of unskilled labor. Advanced or ‘created’ resources include specialization and skilled knowledge and expertise, availability of capital, infrastructure, etc.

For Porter, natural resources are of less important as compared to the created resources. Competitive advantage develops in nations and in particular industries that are able to create these advanced and specialized factors.

— Demand Conditions:

Demand conditions invariably talk about the ‘home demand’ which affects how successful a particular industry within a certain nation is. A strong home demand of industries in their own nations creates a large market for them and therefore, creates opportunities for them to grow.

More demands inevitably mean more challenges, but these challenges turn the companies toward innovation and improvement. The size of the market, the growth rate of the market, etc. are some indicators of the home demand.

— Related and Supporting Industries:

According to Porter, the level of success of one industry can be related to the success of related and supporting industries. In the present economies, the role of ‘suppliers’ is a crucial one. These suppliers help in advancing innovation processes through shared resources- technical and other types of aids.

In recent times, the booming of startups has stimulated the renovation. These startups have entered into innumerable mergers with various industrial giants leading to the creation of competitive advantage.

— Firm Strategy, Structure, and Rivalry:

The internal environment in which a firm is established determines how firms are created and structured. This structuring of the firm can be influenced by a number of factors- political, economic, and social. This structuring will form the basis of creating a strategy towards the establishment of the firm.

The level of competitiveness between firms of a particular industry in one nation is marked by domestic rivalry. The more intense the domestic rivalry, the more it will push firms toward innovations, improvement and global competitiveness. Domestic rivalry in the automobile industry between various Japanese firms such as Toyota, Nissan, Honda, etc. can be cited as a perfect example.

Also read: Porter’s Five Forces of Competitive Analysis – What You Need to Know?

Additional Determinants

Apart from the above four major determinants, two other determinants can be mentioned as having an influence on the creation of a competitive advantage in a particular nation. These two determinants are:

Porters Diamond Model six determinants

— Government:

The government plays a vital role in the success of a firm or company. It is the government that provides for technical and financial aid to companies for its growth. The government has been referred to as ‘a catalyst and challenger’.

Porter believes that the market is not meant to be in the ‘invisible hands’ but the government should regulate it in order to stimulate the creation of advanced factors and therefore, leading to the development of competitive advantage. Government policies, investment in infrastructure, funding, etc. are some ways in which governments help in intensifying home demands.

— Chance:

The role of chance has not been originally discussed by Porter but it has been included in the Diamond Model as there may emerge random events like some scientific breakthrough, natural disasters or wars that might affect the established competitive positions in the society.

Summing Up

To sum up, the above mentioned six determinants in the national context- factor conditions; demand conditions; related and supporting industries; firm strategy, structure, and rivalry; government; and chances, can accelerate or deaccelerate the rate of success of a certain firm of a particular industry in a particular nation.

This success can lead to the generation of home demand which in turn results in increasing competitiveness in the global market and therefore, creates a competitive advantage for a certain firm.

Criticisms on Porter’s Diamond Model

Discrediting Porter’s Diamond Model will not justify his contribution but we cannot ignore the criticisms his theory of competitive advantage has drawn upon.

Some critics have pointed out that the list of internal determinants is limited in nature as there can be many other factors that can be listed. In other arguments, it has been noted that the inclusion of external factors has been avoided. The main focus has been more on the domestic picture and less on the global level.

Some writers have even highlighted that this Diamond Theory is not universal in nature but rather limited as it has been based on the study of only ten developed nations. Therefore, it would not be an exaggeration to pinpoint that Porter’s Diamond Model mostly applies to the researched developed countries.

Lastly, drawbacks relating to the sole application of the model on material products and not on services have been pointed out. The model fails to examine how this model will apply to the service sector of the economy.

What is Complexity bias? And how can you deal with it?

What is Complexity bias? And how can you deal with it?

Complexity bias means that the complex concepts in our lives are better than the ones which are more straightforward. It is a way through which our brain is hardwired to think that using the source of complexity bias in our lives, and we can have a productive ordeal. It is a logical fallacy that leads us to believe that the complex problems are better and they are happening. The whole term of complexity bias denotes that people are instead devoted to their time on these kinds of approaches rather simpler, faster, and easier to solve.

Examples of Complexity Bias

Simple things made Complicated... Here are some of the most common examples of complexity bias.

1. The use of Jargon in everyday life states the fact that complexity bias is a part of us and how we use the source of complex behavior management to get. When you are trying to talk out of something or trying to evade a type of argument that is going among you and other people, then you will tend to think that using long and big words can help you to keep out of the trouble and the mess. It can keep you safe, as well.

2. Coming to the source of mathematics, let me prone an example here. When you were a kid or let us take an example of when you were in high school, did you think that the complex mathematical problems are accurate? This means that people often tend to believe that if a problem is harder to conceive, then it can say that there is a valuable quantitative insight into that problem, and it needs to have a better approach towards the whole solving issue. This is how our brain presents us with the same.

3. Another example here is the use of the software. When it comes to the management and the use of software, then you can check to see that the complex ones are the ones that you tend to like. Do you know why? Because this is a product of complexity bias as well. If we think that software is sophisticated, then our mind races into thinking that the use of the software can be kept and put together into different means. It will yield fruitful results just because the software has a complex nature and approach.

How can complexity bias be a problem for you?

Well, if you cannot asses the problem now, then let me tell you, a complexity bias into your behavior can tend to do a lot more damage than you think. Do you know why? Because with the use and sourcing of our mind into thinking that a complex behavior will help us to change routes, we tend to do things and tend to adhere to those things which can only show and procreate as complex in front of us. It can be wrong because it can cause a lot of problems later as well.

Regularisation is a fundamental concept which happens and takes place in our mind. For example, when we see people who are taking care of their management and business and doing the things they love, then we do tend to extend our behavior with respect to do. The same happens when we set our goals in life. If we have a more straightforward nature and a way of accomplishing those goals, then we tend to overthink and realize that they are not really what we want.

For example, if you are earning right now, then you might tend to of your taxes at the same time. Well, if you have the complexity bias, then your mind will fool you into thinking that the bigger the problem, the better will be your answer. A lot of people do believe that their goal can only be achieved with the use of sophisticated means, and this entirely happens to the inner sane that we create within us. The same happens and takes place with the source of complexity bias here. With the use of this terminology, people tend to think that the complex their life problems are, the better they can thrive towards their goals.

How to stop complexity bias from protruding your life?

If complexity bias is a constant problem in your life, then don’t worry because you are not the only one here. In a famous survey, it was found that around 56% of the people tend to have complexity bias based on the behavior that they possess. They think that the complex problem will yield them more, and they tend to move towards the one which is harder to solve.

The same happens when you are a kid. If you think that severe problems should be solved first because they are more rewarding than others, then there is where you are wrong. The source of complexity bias is that it blinds our senses into thinking that everything in life, which is simple and healthy, can yield better choices and results too. We tend to feel the same because our brain is wired in that way.

Have you ever been in a situation where you have felt that the complicated situation is, and it will be easier for you to get out? What was your final solution? Did you get out eventually? Well, around 10 out of every 15 people who have the source of building complexity bias don’t actually get out of a problem. They tend to think that they will do, but then they get stuck.

Take this as an example. A Couple has borrowed money from one man, and they think that they can use the money and borrow another loan from someplace in a shorter time to pay to the man. This is when the couple starts to borrow loans from everyone, and instead of choosing to pay them off, they begin to fall into a loan loop. This is because the couple does have a source and tendency to show complexity bias.

It is better to get a bird’s eye view:

birds eye view

Have you ever thought of getting the bird’s eye view to solve your complexity bias issue? Well, if you have not, then it is your time. With the help of the bird’s eye view, you can see everything that you want. When you are doing something, then they are ‘bound to affect the people who are around you. If you are taking a loan, then your partner is bound to be affected by the same. It is essential that you get a 360 angle and view up from the sky.

As a source writer, I am often presented with a ton of complex ideas and contents to finish. But the ones which are simpler is easier to be done. When I do get the miscellaneous items, trust me, I think that they are useful because they are technical, and they can yield me more value than the others. But what I don’t asses and realize at the same time is, the complex my topics are, the harder it gets for me to understand and how to write on them. And the harder it gets for me to formulate a story in a simple language so that I can tell it to anyone or the readers who read it.

This is when I need to approach and look at the whole problem into the source of the bird-eye view and point here. With the use of the bird’s eye view, I can calculate the origin and function, which can be yield with the use of the simple articles which are collected at my place. It might be simple for me to write, but at the same time, they can yield me many more views too.

Here is how you can do the needful and get the thing I am talking about.

  1. When something is presented right in front of you, don’t procrastinate with it. You need to understand how and why you need to do it so that you can maintain the source of your work.
  2. Write it all down on a piece of paper if you want. If you want to have a good time and keep yourself away from your complexity bias, then writing down everything in a piece of paper will save you from the troubles later.
  3. And the third thing you need to do is rule out the negative that you have got. If you have negatives in your line of business, then you need to understand how you can work through it. You cannot rule out the images for you, but what you can do is, help yourself out from keeping them away from you.
  4. Get a perspective that can help you and the ones who are staying with you. You need to have a proper outlook over the items that are holding you down for the source of your complexity bias. This can only be done with the use of the full point of view that is being talked out.

Also read:

Ask yourself the right questions when you are divulging

Another type of source and problem that can be laid and help you out with your complexity bias is to ask yourself the right kind of the issues that you have. If you don’t ask and question yourself, then you are never going to get things moving in your life. You need to have a proactive session with yourself and understand that the rights and the wrongs depend on your view and the perspective. It is entirely on you.

Here are some questions you can divulge in.

  1. Ask yourself that if this is the right thing that you are doing or not?
  2. Make sure that you keep your time out on the following and understand the source of complexity bias in your life. You need to dive in deep, and this way, you can find a cause or a means through which to get out of your complexity bias-based behavior.
  3. Ask yourself that the complex problems that you intend in your life will yield you something or not?
  4. Ask yourself the general questions like the assessment of the work and how it can be managed for you? You need to look out for you, and this can only be done with the source of you questioning all the details and the intricate source of your life.
  5. Ask yourself that these complex problems that you are undertaking for yourself won’t cause you damage or not?

You need to think before you act, and this is the prime solution for getting over your complexity bias. It can help you to manage the best, and in the right way, these top questions will help you to get over the type of behavior which you generally possess.

Conclusion

Always have an excellent tactic when you are asking yourself some questions. Always remember that people, when they have complexity bias, they tend to over-complicate even the simplest of things. It is better that you ask for a piece of needed advice from your peers if they are sorted out. Or, if you want, then you can look for professional help if the simple things are not yielding much into your life. The more you indulge in these, the more the behavior will grow on you and which can later yield to something complicated to eradicate.

37 All-time Best Quotes on Money trade brains

37 All-time Best Quotes on Money!

37 All-time Best Quotes on Money: Everyone wants money. No matter what the critics may say, money is the means to buy comforts and almost everything. From purchasing luxurious cars, dream house, fancy clothes to traveling to your fantasy lands, one can get all of these if they have a lot of money. Moreover, when you take care of your money, it takes care of your life too. 

In this article, we are going to share 37 of the best quotes on money that will motive you to earn, save and invest more money. So, buckle up and get ready to enter the money-land.

37 All-time Best Quotes on Money

Save Money Quotes

1) “Spend not where you may save; spare not where you must spend.” – John Ray

2) “Save a little money each month and at the end of the year you’ll be surprised at how little you have.” – Ernest Haskins

3) “If you can count your money, you don’t have a billion dollars.” – J. Paul Getty

4) “A man is usually more careful of his money than he is of his principles.” – Ralph Waldo Emerson

5) “Saving requires us to not get things now so that we can get bigger ones later.” – Jean Chatzky

6) “The habit of saving is itself an education; it fosters every virtue, teaches self-denial, cultivates the sense of order, trains to forethought, and so broadens the mind.”— T.T. Munger

7) “If you would be wealthy, think of saving as well as getting.” —Benjamin Franklin

8) “A simple fact that is hard to learn is that the time to save money is when you have some.” —Joe Moore

9) “If you’re saving, you’re succeeding.”― Steve Burkholder

10) “The safest way to double your money is to fold it over and put it in your pocket.” – Kin Hubbard. 

Also read: 3 Amazing Books to Read for a Successful Investing Mindset.

Managing Money Quotes

11) “Waste your money and you’re only out of money, but waste your time and you’ve lost a part of your life.”— Michael Leboeuf.

12)  “Every time you borrow money, you’re robbing your future self.” – Nathan W. Morris

13) “If we command our wealth, we shall be rich and free. If our wealth commands us, we are poor indeed.” —Edmund Burke

14) “The more your money works for you, the less you have to work for money.”― Idowu Koyenikan,

15) “Money is power, freedom, a cushion, the root of all evil, the sum of blessings.”— Carl Sandburg

16) Money is only a tool. It will take you wherever you wish, but it will not replace you as the driver.”Ayn Rand

17) “Money often costs too much.” – Ralph Waldo Emerson

18) “There is a gigantic difference between earning a great deal of money and being rich.”— Marlene Dietrich

19) “I don’t pay good wages because I have a lot of money; I have a lot of money because I pay good wages.”— Robert Bosch

20) “Many folks think they aren’t good at earning money when what they don’t know is how to use it.” —Frank A. Clark

21) “Never spend your money before you have earned it.” —Thomas Jefferson

Money Mindset

22) “Many people take no care of their money till they come nearly to the end of it, and others do just the same with their time.” —Johann Wolfgang von Goethe

23) “Before you speak, listen. Before you write, think. Before you spend, earn. Before you invest, investigate. Before you criticize, wait. Before you pray, forgive. Before you quit, try. Before you retire, save. Before you die, give.” – William A. Ward

24) “The more you learn, the more you earn.” – Frank Clark

25) “Do what you love and the money will follow.”— Marsha Sinetar

26) “Money never made a man happy yet, nor will it. The more a man has, the more he wants. Instead of filling a vacuum, it makes one.” -Benjamin Franklin

27) “Money is like love; it kills slowly and painfully the one who withholds it, and enlivens the other who turns it on his fellow human.” – Kahlil Gibran

28) “Money is a terrible master but an excellent servant.” —P.T. Barnum

29) “Don’t tell me where your priorities are. Show me where you spend your money and I’ll tell you what they are.” —James W. Frick

Make Money Quotes

30) “It’s not how much money you make, but how much money you keep, how hard it works for you, and how many generations you keep it for.”— Robert Kiyosaki

31) “The money you make is a symbol of the value you create.” ― Idowu Koyenikan.

32) “Money is always eager and ready to work for anyone who is ready to employ it.”― Idowu Koyenikan

33) “We live by the Golden Rule. Those who have the gold make the rules.” ~Buzzie Bavasi. 

Invest Money Quotes:

34) “An investment in knowledge pays the best dividends.”-Benjamin Franklin

35) “In investing, what is comfortable is rarely profitable.” – Robert Arnott

36) “I would not pre-pay. I would invest instead and let the investments cover it.” – Dave Ramsey. 

37) “October: This is one of the particularly dangerous months to invest in stocks. Other dangerous months are July, January, September, April, November, May, March, June, December, August, and February.” – Mark Twain.

Also read:31 Hand-Picked Best Quotes on Investing: Buffett, Munger, Graham & More.

That’s all folks. Let us know which one is your favorite quote on money in the comment section below. Cheers!

What is Swing Trading? Definition, Pros, Cons & More

What is Swing Trading? Definition, Pros, Cons & More!

Swing trading is when investors capitalize on swings in the market by holding on to a security for an extended period of time. Day trading positions last for less than a day while swing trading can last up to a week. It is used to trade numerous securities such as forex, futures, options, and stocks.

Swing trading is beneficial as it provides more opportunities for profits than day trading and quicker rewards than long-term investments. But on the downside, you need to constantly manage trades as you might miss out on opportunities to make a profit if you don’t act quick.

So what exactly is swing trading?

In its simplest form, traders hold on to securities for an extended period of time to earn a profit. This can range from overnight to several weeks. The objective of swing trading is to identify a trend and find swings within that trend to make a profit. Technical analysis can be used to identify these swings and act on them. Both day trading and swing trading have higher risks and costs than typical investments.

Swing trading is often undertaken by individuals and not large institutions as large institutions trade in large volumes, making it harder to enter and exit the market as required. It is a great option for beginner traders as it allows them to gain experience in trading. Losses can be kept minimal with stop-loss techniques and it provides perspective on both short and long-term trading.

(Video Credit: Elearnmarkets)

Benefits of swing trading

Swing trading is beneficial to beginner investors and for those who need more time to make trading decisions. It comes with several advantages such as:

— Versatility- Swing trading is a good option for people who can’t trade during market hours but still want to remain active traders. You can decide the price at which you want to enter and exit the market and place stops so they the stock value doesn’t go below a certain level- there are some trading softwares that even let you place multiple stop-orders in a day. Additionally, swing trading can be used for numerous securities such as bitcoin and standard options.

— Identify opportunities- Swing trading is generally not adopted by large firms as the trader constantly enters and exits the market but this comes with its own benefits. It allows the investor to identify new opportunities in the market. Looking at a financial chart shows you the long-term trend of stock but this is not always protected by support and resistance. By entering and exiting the market on a regular basis, you can identify opportunities in different markets with new trades. This not only allows you to spread your risk but you also have a lot less capital tied up in a single stock.

— Lower losses- Stop losses result in lower losses than long-term trades. A stop loss on a swing trade maybe 100 pips for a 5-hour chart but a stop loss on a chart over a week can be 400 pips or higher. This allows you to take larger positions on long-term trends. You can also place multiple stop losses in a day to protect your stocks against loss.

— You can have a better understanding of the trades- Swing traders are technical traders and have certain signs and signals to show them when a stock is/will not perform well. Therefore this makes it easier for a swing trader to limit the damages before they occur. Long-term traders cannot do this as trade based on the fundamentals of the stock. A swing trader, on the other hand, needs to be patient and take fewer trades.

Disadvantages of a swing trading

Although swing trading has its benefits, it comes with its own trade-offs. Here are a few challenges of swing trading:

— Unpredictable changes- Swing trades can change dramatically overnight, so if the market changes while you are sleeping, you could be up for a surprise the next morning. In certain cases, even a stop loss won’t be able to protect your trade. Trading is risky in itself and entering and exiting the market means that you are risking the money more often. You are likely to face losses every now and then due to this.

— Expert knowledge- While this might not necessarily be a disadvantage, swing trading requires a trader to be knowledgeable in technical analysis. Looking at a chart to find the high and low points is easy but as a swing trader, you need to identify the entry and exit points as well. Learning these skills takes time and effort and a trader would need to master this before they start swing trading.

— Psychology- You need to have a different mindset when it comes to swing trading. You need to be able to think on your feet and be sure of the decisions you make. As a swing trader is more aggressive than a regular trader who only studies the charts. Swing trading does not provide you with the same leverage as day trading.

Also read: What is Derivative Trading? Futures & Options Explained

Bullish and bearish swing tactics

 Bullish traders

Stocks that are trending in the market rarely go in a straight line. A stock may go up for several days in a step formation and then gradually come back down. When the stock can be seen moving upward, it is said to be in an uptrend. Bullish traders look for the initial upward trend followed by the reversal of this, called the ‘counter-trend’. This is again followed by an upward trend. You should enter a trade only after the original upward trend has resumed.

Bearish traders

Like upward trends, downward trends also move in a step pattern. A stock could trend downward for a number of days, followed by a few days of upward movement and then back to the downward trend. Traders should enter a bearish swing trade when the stock resumes its downward trend. They can do this with a sell-stop limit order.

How to plan your passive income the right way?

How to Plan Your Passive Income The Right Way?

How to Plan Your Passive Income The Right Way?

Hello readers! Today, we at TradeBrains, are covering a topic that might stir up a lot of interest and intrigue within our community. In recent years, we have been seeing a lot of interest among our readers to generate a second source of passive income to meet their financial goals. While stock investors do manage to achieve this when their portfolio companies shell out dividends, the reality is that for most individuals passive income requires conscious planning and periodic review.

Today’s post should help answer some of your questions and perhaps guide you on your financial journey going forward. So let’s get started.

What is passive income?

In the most general sense of the phrase, passive income usually refers to consistent and periodic income you may gain without dedicating large amounts of your time. Some people would even go so far as to say that passive income is the “income you gain while you are asleep”. 

A prudent investor would, however, understand that even though the statement puts across the idea of passive income bluntly, one would have to live in a fool’s paradise to assume that passive income actually requires no work (it requires less work, not zero work). However, by making some smart moves anyone can create a source of income to add more teeth to their financial firepower.

Why do people try to create a passive income source?

In the simplest language, passive income reduces the dependence of your lifestyle on a single income source. In other words, you ensure that you do not put all your eggs in a single basket.

Again here quite a few people may argue that the real benefit of substantial passive income is realized when one does not feel pressured for working extra hours at work to earn a meager overtime pay during uncertain times. When things go haywire in life, which happens more often than not, a second income does indeed come as a relief especially when you carry a financial burden like an enormous EMI on your housing loan.

Another reason which might have some sense is that a passive income usually acts as a force multiplier in your financial journey. You could get additional fire-power for your monthly SIPs or you could buy assets that get you even more side income all the while riding on the power of compounding to grow your wealth over time.

The motivation for generating income could also differ according to a person’s age or situation in life as well. Individuals working in senior management in private sector companies that do not pay pension might actively scout for an income post-retirement than a younger person.

What are the sources of second income?

And a comparison of skill-based and investment based sources of income.

For quite a large section of the society, the main sources of passive income are either in the form of interest gained from bank deposits or rental income from a real estate asset. However, things have changed in the last decade or so, the fixed deposit interest rates are being lowered every year and the real estate prices continue to break a new ceiling in most cities. These two powerful macro trends have rendered conventional sources quite inefficient in developing a passive income source for a young person who has just started earning.

Looking at the other options available, your second income could be either skill/service-based or investment-based. You could sell your existing skills to provide services or advice as a consultant for other people or companies that might need them. Another option could be to collect royalty income from intellectual property or any other creative services. 

But, to play the devil’s advocate, even though selling skill is rewarding, it would still require some time and effort on a consistent basis to generate a steady income. Hence, an investment based income would be more ideal if you are not able to put in lots of time or effort for any reason.

Investment based ideas could include dividend investing, fixed deposits, rental/lease income from real estate, peer to peer lending, etc. In most cases, the metric used to judge an investment based income source would be the interest rate or the yield. Although seemingly easy to execute, an investment base income strategy would require portfolio adjustments based on a periodic review of risk and reward of the portfolio.

For a list of ideas you could refer to another of our articles:

passive income quotes

How to plan your passive income portfolio?

The most important thing to consider while planning your passive income portfolio is time, the time you can invest and also the time you would be willing to wait for your portfolio to build up in value. However, prudence doesn’t hurt and it would be advisable to look at qualitative factors like repeatability and consistency while deciding on your chosen method for generating a passive income. If your passive source also happens to be scalable, then who knows? Maybe one day it might lead you to new and exciting business ventures.

The lazy way to start building a portfolio for most people with significant day time commitments would be to focus on generating steady interest income every month. Although savings schemes and fixed deposit plans have been the conventional go-to strategies, in recent times the rise in web and mobile technology adoption rates have facilitated the feasibility and importance of peer to peer lending platforms as another significant source for earning interest income.

Some people may prefer to keep a mix of side hustles and investment-based income in starting their portfolio, while others may look for only investment based avenues. Although there is no single right way, keeping repeatability and consistency as a priority would really go a long way in helping anyone build a process for growing their passive income.

6 Steps to create a passive income source

Creating a passive income is going to be tough, a lot of time will have to be spent on researching new investment sources, gaining new skills and performing tasks which can be monetized. The whole journey could be a whole lot simpler if we were to follow a process-driven approach. We, at TradeBrains, have compiled a list of things anyone could start doing right away to begin their own passive income portfolio.

1. Evaluate your time

The most important asset you have is your time so it is only reasonable to find out whether a particular side hustle is worth your time or not. In case you do not have too many hours to spare it is perfectly fine to start only on investment based income strategies.

2. Save until it hurts

Be thrifty, pay your EMIs and get out of debt as soon as possible. Try to cut corners wherever possible to get extra cash. Try cooking your own food instead of ordering every time. Only buy things you need from e-commerce websites.

3. Learn about income-generating assets and focus on buying them

Dividend stocks, REITs, government bonds, savings deposits, you name it, anything that provides you income on a regular basis should be included in this list

4. Calculate how much passive income you would need

It’s important to have a figure you can aim to act as a compass else it is possible for you to get lost and even lose motivation towards achieving your goals. A good goal is to try and generate enough alternate income to cover for your rent, food and monthly running expenses

If your annual expenses are around 6lakhs then divide the number by your expected return to get the capital you may need to save up. So if you are expecting a return of 10% from your investments, then having a capital base of 60lakhs would suffice for you to cover your expenses.

5. Grow multiple streams over time, Be diversified

Given the uncertainty of the world we live in, we simply can’t underscore the importance of diversification of income streams. Capital preservation is simply underrated in our daily conversations about money that a lot of the times we even pretend like money cannot be lost in investments. 

If we were to look back into history, after the burst of the dot-com bubble it took roughly 10 years for Nasdaq investors to just break even. Your passive income portfolio should be diversified to absorb any impact in your life in case one single income source stops churning out cash for you.

6. Be patient and don’t give up

All the above steps would amount to nothing if it is not given time to grow. Compounding works and it gives astounding results over large spans of time. Sure the wait to building wealth is always slow and long but it is definitely worth the wait.