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Business cycles: How NOT to build income freedom

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Traditional investment strategies try very hard to profit from business cycles. Unfortunately, that is no way to create wealth or build income freedom.
 
What is the business cycle?
 
Every economy goes through upswings and downswings. A period of high business activity (upswing) is followed by a period of low business activity (downswing). This pattern is called a business cycle
 
An upswing represents a period of expansion where a country has a relatively higher level of economic activity.This tends to increase the supply of money in the economy which results in lower interest rates.
 
The lower interest rates encourage people to spend more which in turn stimulates the demand for goods and services. A higher demand is often characterised by rising inflation.
 
In a downswing or contraction phase, a country has a relatively lower level of economic activity. The supply of money tends to be lower, interest rates rise and demand for goods and services decline.
 
The higher interest rates make it difficult for people to maintain their previous standard of living. Just think of the impact that interest rates have on your mortgage bond repayments.
 
►Business cycles affect investment performance
 
Business cycles affect the way different investment or financial products perform.
 
For example, in an upswing share prices tend to increase. This attracts investors into the stock market.
 
In a downswing, share prices tend to decline. Shares eventually become out of favour with investors resulting in a greater preference for cash and other interest-driven investments.    
 
You must bear in mind that this is a highly simplistic view of the way economies work. Financial markets are made up of many different sectors which all have their own working dynamics.
 
Some sectors may perform well in a downswing or poorly in an upswing.
 
If consistent returns are important to you, you MUST carefully examine your investment strategy in light of where the economy is in the business cycle.
 
►This creates a major problem  
 
If you are unable to predict turning points in the business cycle, your returns and future profits are in for a beating at some stage.
 
The central idea is that investors buy shares at the beginning of an upswing when prices are at their lowest and sell at the beginning of a downswing when prices are at their highest. The difference in price represents the profit that is made.  
 
However, research has shown time and time again that it is almost impossible to predict such turning points.
 
If you decide to buy and hold an investment through different business cycles, your returns will move with the ups and downs of the economy.
 
At the end of the day, your investments will show inconsistent growth and limited compounding benefits (Learn more about compounding).
 
The big question is whether the inconsistent growth is good enough for you to achieve your personal objectives.  
 
►Wealth creators exploit needs, NOT business cycles.
 
Investors use financial products to profit from business cycles. This is extremely difficult to achieve considering the unpredictable nature of economic activity.
 
Wealth creators use passive income businesses to profit from consumer needs.
 
There are four steps involved:
  1. Identify a niche market with clearly defined needs.
  2. Determine whether the market has commercial viability.
  3. Extract passive income from your market by offering products and services.
  4. Put systems in place to automate key business functions.
There are three major benefits of building a passive income business:
  1. It is much easier to identify profitable niche markets than it is to understand where your domestic economy is in the business cycle.
  2. Income streams are a lot more consistent and reliable.
  3. The risks are lower and the returns greater. 

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