Everyone who owns stocks has seen a nice, fast rise in their net worth lately. Just when many thought that the market could only go down after the Dow Jones hit the symbolic 20,000, it proceeded to reach another record high of 21,000 in a very short time. The market timers are probably confused and might make the wrong moves feeling the euphoria. I smell greed in the air.
We are not magicians and don’t pretend to predict what the market will do. Nevertheless, we know exactly what to do when we have new money to invest. We have a magic ball called “net worth allocation”.
Our net worth allocation is our greed and fear gauge because it keeps us from buying too much of a particular asset when it’s high and not buying enough when it’s low. Knowing what to do with your money based on logic as opposed to emotions is a great remedy for bad decisions. Sticking to our allocation keeps any irrational behavior at bay.
We’re in it for the long term
We’re in this for the long term. Is the market going to increase by another 5,000 points before it comes down crashing? We don’t know and we don’t care. Is it going to come down crashing to 16,000 points over the next couple of years? We don’t know and we don’t care. We just don’t care. We can make a song out of this. Musica, maestro! WE DON’T CARE…NO WEEEEE DON’T!
We only care about how much risk we should be taking. We care that our assets are properly allocated. We care when a good Latin singer concert comes to our tri-state area. We care about what’s for dinner since it involves my intervention in the kitchen. 🙂 Above all, we care about being happy, and being happy means that we don’t put extra energy on things that we can’t control, like fluctuations in the market.
Net worth progress
When negative financial news come our way, we can combat it by looking at how much progress we’ve made. Our investments have grown nicely over time. They survived the Great Recession even though they were relatively small back then. Then, they grew exponentially because we didn’t panic during the recession, kept buying low and reaped the benefits of when the market began to climb again. How much money did we make?
That amounts to …… ahhhhh…. hmmm…. Fooled ya! We’re so not ready to be disclosing amounts.
Brave are those souls that…
We’re not like those brave souls that expose their net worth on RockStar Finance’s net worth tracker. There are some revealing numbers in there. Bloggers Amber and Danny Masters, from Red Two Green, have a $-532k net worth. Wow, that’s not a typo, that is a negative sign! They racked up some serious student loan debt. James Dahle, another blogger that goes as The White Coat Investor, holds the highest net worth on that list with a net worth of $5 million. So, we fall somewhere in between those two bloggers but really far from the white coat guy. 🙂
Net worth percentage change
Back to our percentage tracking. In 2014, I created a spreadsheet which we use to track our net worth and that helped with the reporting of our Freedom Fund updates. We’ve been making tweaks along the way and, by just tracking the net worth every month, we can populate a ton of data automatically. For example, we can tell that our net worth increased by 14% in just four months since October of 2016. We can credit a big slice of those gains to the stock market rally. At times, these increases seem surreal as we continue with our plan of early retirement.
Our net worth is composed of income-producing assets. Some dollars work harder than others, but all are set up to provide us with a comfortable lifestyle. As we became financially independent in January of 2017, we fulfilled the bucket that will sustain our lifestyles indefinitely. The part of the net worth that we’re now growing with new money is the one that will help us either buy or build our house. The house, in turn, is bound to become an income-producing investment as well, if we buy/build a duplex and rent one unit out.
Here’s a sample of how the last 12 months look for us from the tracking spreadsheet.
|Net Worth Percentage Change – Past 12 Months|
Percent change by year
We also estimate our net worth increase for the following year, based on the expected income for that year plus a cumulative 7% return on investments. Here’s how last three years looked like.
|Net Worth Change – Past 3 Years|
|Year||Estimated Percentage Change||Actual Percentage Change|
It’s amazing how the numbers turned out. Based on the previous annual income and an expected return of 7% from our investments, we predicted a 33% increase in net worth for 2014 and got a 49% increase. The extra bump came from a combination of lower expenses and some stock market growth.
For 2015, we predicted a 37% increase but got a 23% increase instead. 2015 was a flat year for us, as far as stock returns concerns. Our portfolio of stocks and bonds returned a negative $843 for that year.
For 2016, our estimates were fairly close, we were only off by 1% at 31% of actual growth. The market performed well for us last year.
Net worth increase in 3 years
By looking at the chart below, we increased our net worth by 139% during the last three calendar years. The numbers were off by less than a percent from the total cumulative estimated increase. The way you read the table below is as follows: we estimated our net worth to increase by 33% from 2013 to 2014, by 83% from 2013 to 2015, etc.
|Cumulative Net Worth Increase – Past 3 Years|
|Year||Cumulative Estimated Percentage Increase||Cumulative Actual Percentage Increase|
How the hell did we accomplish this feat?
Here’s the short version: To start with a clean slate, I paid off all of my debt before we got married, except for the mortgage on the investment property. After we tied the knot, we kept life simple, budgeted together and continued to track our expenses. Instead of moving into a bigger place right away or buying a house, we stayed in Mrs. Enchumbao’s old apartment, that wasn’t even up to code, for an extra year.
We didn’t let lifestyle inflation take away from our savings. Not taking any more debt was also crucial to our success. We kept investing any surplus, cut unnecessary expenses that didn’t add value to our happiness, downsized to one car, and moved extremely close to work, while the investments kept growing along the way.
Now, this is against the backdrop of a bull market. Part of our net worth could or will be decreased with the next bear market. Part of it could also be affected with a real estate cool off. With interest rates on the rise, our bond funds will most likely lose value. However, while some investments are down, others will most likely be up. No need to panic and just stay the course. After all, investing is about taking risks to reap rewards. The key is to take calculated risks.
All investments are subject to price fluctuations
Any investment goes up and down in price almost every day, even your home. Just because your home decreases in value, doesn’t mean you’ll go out and sell it right away at a loss. It’s the same for the stock market. Imagine if your home value was being advertised on a screen every day, along with other houses in the world.
|Raul Gastador’s home value is down by 10% today due to an overnight pedestrian accident two blocks away. The neighborhood is on sale!|
Are you going to sell your home the next day based on this news? That’ll be very unlikely. Raul Gastador would probably think about it, but you and I know that your home will still provide you and your family with a shelter, the lawn will still grow every spring, and watching a movie by the fireplace will still be as cozy and as enjoyable as it was the night before.
It’s the same for stocks. Even if the price goes down, it’s an unrealized loss, you still own the same amount of shares in the company and you will get your dividends. For people like us, that are investing for the long term, the downs in the stock market are temporary pot holes along the way and an opportunity to buy more. We will still get to our destination. We don’t worry about them much and we’ll get to the why in a minute.
The fact that our net worth increase calculations were so close with only three years of tracking is very reassuring. It means that our ways of calculating these were very precise. The next three years could and might look very different. Let’s see which assets make up our net worth and how we try to minimize risks.
Net worth allocation
A friend of mine asked me the other day: How do you protect yourself from a stock market crash? I think he was thinking more along the lines of at what point do we sell to avoid incuring losses as opposed to riding it out. The simple answer is that we don’t sell to try to time the market, but invest according to how much risk we can afford to take. Whenever we have new money to invest, we take a look at our net worth allocation and see which assets are underweight and buy accordingly.
We don’t go thinking: hmmm, the market is up big time. Let’s sell and wait on the sidelines until it cools off and then we’ll invest it again and make more money than the fools that follow a buy-and-hold strategy. The people that stayed on the sidelines, 4-6 years ago, thinking that the market already had a good run, are probably hitting their heads against the wall for not staying the course.
The chart below shows how our assets are currently allocated. This portfolio already brings us over $18,000 annually in dividends.
The following chart shows what we want our allocation to be prior to retirement.
This allocation is our guideline and is not set in stone. If we change plans along the way, then we’ll rethink our allocation mix.
Assets in our net worth allocation
Our current allocation to bonds is over 12%, but we want to have a 9% allocation by the time we retire. It’s not a big deal that we’re overweighted, since we’re still in the accumulating stage, and the current allocation percentage will decrease as we invest more in other asset types.
Based on our intended net worth allocation, we should have around 57% of our assets allocated to stocks. It’s not 90% in the good times or 30% in the bad times due to market timing. That shit is hard to accomplish as you need to be right twice, when you get in and when you get out.
We haven’t invested any new money in stock funds since late last year because our allocation shows that it’s been growing aggressively on its own while we grow other investments. This is the reason why the net worth jumped much higher than expected in the last four months. We’ll resume buying once stocks make up less than 57% of our net worth.
Since we haven’t had a major correction in ages and a bear market is more probable as times goes by, there’s a big chance that our current stock allocation will drop. What would we do? Again, we would check our net worth allocation and rebalance accordingly.
We’d like to have around 7% of our net worth allocated to REITs by the time we retire. We have some REITs in our brokerage account, but we mostly buy them in our Roth IRAs to avoid paying taxes on the distributions, so we’re limited by the annual contribution limit set by the IRS. Next time we’ll be buying REITs will be in January 2018 unless they outperform other assets in the portfolio the same way stocks are up now.
We have an investment property that yields nice returns. It’s a two-apartment house with a low vacancy rate. It became profitable after I turned it into two apartments.
House Fund Savings
The new asset category we started saving for since last year is the House Fund Savings. We’re at a point where we need to start saving aggressively (when don’t we) for a house. We plan to explore places like the Dominican Republic (my birth country) and, if it makes sense, make it our home during the first leg of our retirement.
We keep this money in a risk-free account. Now, we’ve been renting for a quite a while and, if at some point we don’t feel that buying a house is our best choice, we’d rethink our strategy. We have options and it will be good to do a pulse check upon retirement to make sure that it’s still the choice that would make us happiest.
This asset appears first on the Projected Net Worth Allocation Chart. After we sell the rental property (R.E. – Investment Property asset) the money will go to this bucket. We plan to have about 6% of our net worth in savings. This money will represent first three years of core living expenses in retirement and funds to buy a car abroad.
One thing that I love about blogging is that by explaining a topic or our plan of action we ensure that our i’s are dotted and our t’s are crossed. Everyone that is pursuing a goal in life should blog about it. It makes your goals much more clear and attainable.
Our net worth increase over the past three years has been a result of sound investment principles and an aggressive saving strategy without deprivation, built out of a strong desire to break the chains of needing jobs to pay the bills and become financially free. This desire led us to become in tune with ourselves and helped define what really brings happiness to our lives.
I built what I think is a fancy spreadsheet to track these numbers, but remember that you don’t need to spend time working on fancy charts and spreadsheets to achieve financial independence. This kind of unnecessary nerdy stuff is simply what I enjoy working on. All you need is to get out of debt, optimize your spending and invest the surplus. The path to wealth is that simple.