A few days ago I was talking about financial independence with a good friend of mine. He was curious and asked me many questions about why it is important and how to achieve it. Eventually, though, he told me “everything you are saying assumes that I have money to invest”.
He made the assumption that since he does not have much to save right now, he cannot achieve financial independence in the future. I am writing this post to share that he can also retire with one million if he wants.
While it is true that it is easier to save and invest when you earn a lot, it is also true that compounding interest has the power to transform a small regular investment into more than what most people will ever need. It takes time, but it will.
The math
If you want to retire with one million dollars, euros, pounds, tomatoes, or potatoes, it will take you about 300 of them invested every single month for about 35 years. This assumes a 10% average annual rate of return. You don’t even need to adjust it for inflation. Try the math it yourself.
10% is not a low rate of return on investments. But it is lower than what the stock market has returned over the long term. The S&P500 has returned 10.49% from 1926 until 2021. This includes numerous stock market crashes. The 1929 stock market crash, 1987 Black Monday, 2000 Dot Com bubble, 2008 Global Financial Crisis, and 2020 Coronavirus Pandemic. It also includes a few end-of-the-world conflicts. World War II, Corea, Vietnam, Gulf, Afghanistan, and others.
It also requires investors not to dance in and out of the market. If you invest in market indexes, just stay invested all the time and don’t withdraw the money hoping to time the market.
The past performance of a stock index is not an indication of future returns, especially in the short term. But it tells us a lot about what we can expect over a fairly long period as 35 years. You can find plenty of ETFs tracking the S&P500 or many other broad market indexes.
Once you have one million invested, studies have shown that you can withdraw 4% a year from the portfolio ($40,000 a year or 3,333 a month) and make it last for 30 years or more. The portfolio should be invested 50% in stocks and 50% bonds. The most famous of these studies is called the Trinity study, here is the math. Again, past performance is not an indication of the future, but you can always adjust your spending based on what’s happening around you.
Is it for everyone?
It would be foolish of me to say that everyone can spare $300 a month. For many people in this world, that is more money than they make every month. But for the everyday Joe, who has had the pure the luck of being born a wealthy nation, that should be completely doable.
Do you spend $10 a month on lunch instead of bringing it from home? What about coffees and snacks? Did you decide to get the latest smartphone to take filtered pictures on your exotic vacation this summer? Or did you decide to spend $10,000 to get the full optional version of the car that you’ll drive in the next 3 years? Well, all that equates to about $300/month.
Most people won’t like the idea of giving up something to delay gratification. Sure, it is not for everyone. But if you are able to do it, you’ll likely learn that giving up on something can make you happier. And that you can have control over your future. In the end, this is not about money.
Screw the money, who cares about that. It can be one million, 500,000, or even 200,000. For some people, it will be 5 or 20 million. The purpose of it is not having a pile of money to sit on, it’s about control over your future. Not being a slave to someone else in the future, and consumeristic behaviors today.
Most people think that they need to spend money to be happy today. And they rather rely on a government or pension to care for them. I hear so many people complaining about the social security and welfare system running out of money or forcing you to work until 75. Is that really how you want to live your life? Wining about things that could be under your control? Get to 50 or 60 and depend on something?
It does not matter where you start. If you are 25 and reach financial independence at 60, or 35 and reach it at 70, that’s cool. It’s OK too if you save and invest like a worker bee to retire in 10 years if that’s what you want. Some think they need 20 million to retire. You don’t need to compare yourself to others, the only race is with yourself.