Tick Tock: Our Quickly Approaching Early Retirement
I kind of miss reporting to you on a regular basis on our FIRE progress, as we did last year, with monthly Freedom Fund updates. Not only does it give you a sense of our early retirement status, but it also gives us motivation to get to the finish line, a reason to document our progress and explain our train of thought. Our plan was to invest in the Freedom Fund until we considered ourselves financially independent by having enough investments to support our living standards in early retirement, and then focus our attention on saving for a house.
The Freedom Fund originally consisted of index-based investments, a rental property and savings. We set the number to cover an annual spending budget of $35,000 and accomplished our goal on January of this year. We wanted to be realistic about the prospects of a market downturn, so we set the expectations of meeting our first goal by the summer of 2017. However, the market continued its upward trend and helped us declare FI earlier.
What has happened since our last Freedom Fund update?
Our net worth has increased by almost 10% since then. It feels surreal! Most of our taxable income is now being directed to fund the future purchase of our home. We do continue to max out our 401(k)s and Roths to lower our tax bracket. Since we’re still investing in our non-taxable investment accounts, the Freedom Fund continues to grow. The cash savings that were part of the Freedom Fund are now allocated to our House Fund.
The Freedom Fund now consist of our index-based investments and the rental property. Hmmm, the House Fund sounds kind of boring for a goal fund, so let’s make it more exotic by adding some Latin flavor and renaming it Nuestra Casa Fund. Now it feels like home!
Besides the financial aspects, our lives continue to be the same after reaching FI, except that our threshold for BS is much, much lower than ever before.
Nuestra Casa Fund!
Waiting to save enough to buy a house before retiring is no different than a traditional retiree trying to pay off a mortgage before retirement. Well, maybe there are some subtle differences: a) Instead of buying a house, while saving for retirement takes a back seat, we funded our retirement first and are buying the house after. b) Instead of the house being a detractor, which takes money away that could have been put aside for retirement, our retirement funds are providing income to help fund our future home. c) Saving for a house builds anticipation, as you imagine what you’d like to build or buy, while paying for a mortgage with interest might give you buyer’s remorse, as you shell out that monthly payment to the bank.
We originally thought of having the dough for this fund in different investment vehicles like a balanced index fund. However, as we’re getting closer to retirement, we’re growing more fond of owning our place and want to make sure that the benjamins are available when we need them. Risk-free or very low risk is the way to go for us, so that we can seize any real estate opportunities we might encounter in the future. After all, cash is king when shit hits the fan.
Right now we are at 30% of our goal. These funds are on a “lockdown”, only to be used for our home purchase. It’s like sending a mortgage payment every month, once it’s gone, it’s gone! We will not use the funds for anything else.
Our early retirement date
We have set our retirement year to 2019. That gives us time to save for our house and meet other personal goals before we move. Retiring by then goes according to our original calculation of dropping out of the “rat race” by 2020. It’s crazy how no matter how we spun it, we’re looking to get to the finish line in the same timeframe. We started planning FIRE since 2012, had very little net worth and I was still paying off debt. We stuck to a few principles to achieve financial independence, which we listed on this post, and let it all unfold.
Projected withdrawal rates in retirement
Our nest egg continues to grow at a decent rate and we can expect to withdraw less than 4% from our investment portfolio in retirement. As a matter of fact, we’re going to challenge ourselves to a 3% withdrawal rate. And I don’t think that will be a sacrifice in happiness given that our expenses will be much lower with a paid-off house. Challenging ourselves to enjoy a life of abundance in retirement, without having to spend more, will give our investments even more time to grow.
Risk management and capital preservation
The greed that I see out there in the markets makes me fearful. OK, maybe that was a cliche, but it’s really how I feel. 🙂 We’re a little more than two years away from retirement and, today, just like any other time, allocating our assets in ways that serve our short and long-term goals is extremely important.
We just wrote about our current asset allocation about a year ago and things are changing rapidly. It’s amazing how our risk tolerance has changed over the last few years. I try to wrap my head around it and my only explanation is that we need more constant refining, because our retirement plans are moving in gigantic steps. It’s all happening fairly quickly! We believe in long-term investing, but we don’t want to put ourselves in a situation where we take more risk than necessary by having money slated for short-term goals in riskier investments.
Less risk, less return until we retire? We’re okay with that…
The days of saving with a 90/10 or even 100/0 stock/bond fund allocation are over for us. As we approach retirement, we’re moving into capital preservation mode. We’re moving into conservative investing territory. And yes, this money needs to last us around 60 years, but we’ll also be investing in real estate, so not all the assets will be in our investment portfolio.
We’re more interested in capital preservation and risk management nowadays than losing our shirts to get a bigger return. As Warren Buffet says, and a close friend reminded me during a recent lunch conversation: “Only when the tide goes out do you discover who’s been swimming naked.”
There’s nothing traditional about our retirement timeframe
A traditional retiree saves for 30 years, if they are diligent savers. Their net worth might grow slowly as other things take priority in their lives. Their accumulation stage is very long, so their asset allocation might not have too much movement, because they’re not adding to the investment pot as much as they should. We, on the other hand, took gigantic steps to have the option to retire early by maxing out our retirement accounts, staying away from debt and not owning a home and are getting it done in less than 10 years. Anyone can shave many years off having to save for retirement by doing any of these steps.
I compare early retirement planning timeframes to dog years. We are doing what a traditional retiree does, just on steroids. It’s like a puppy hitting puberty and becoming an old dog, before you know it. (In this analogy, it’s great to be “old”.)
Our allocation can shift fairly quickly, especially when you have a bull market in the backdrop. It could easily be out of whack and not in sync with our goals. We take care of this issue by rebalancing periodically. Our paycheck contributions no longer move the dial as much as when we started investing, since they represent a smaller portion of the total portfolio, but they do help to shift our allocation in the right direction.
We’ve come a long way
When the market collapsed in 2008, I “lost” about 43% of my retirement savings (on paper). Forty-three percent is a big number, but I had less than $20,000 in my account. Losing almost half of the money was not as painful as it would be today. I also had no plans of retiring anytime soon. I had an appetite for risk and kept investing with a high allocation in stock funds. Now it’s a totally different story.
Throughout the years, we kept investing and our investments grew along with the bull market. Earlier this year we posted about our net worth growth and, as we looked back on our progress we realized that, holy shit, we’ve come a long way.
How do we plan for allocation changes?
My wife and I are in this together and we usually “meet” to discuss finances. Our last finance discussion was to go over some allocation changes. We convened over the weekend of April 22, wrote all the options on Fifi (our dry-erase board), challenged each other and played devil’s advocate, and, finally, agreed to shift some assets around to meet our intended goals. There was coffee, fresh french rolls and colorful markets to set the mood. 🙂
How we’re shifting our assets to meet our retirement goals
Given our reduced risk tolerance and quickly approaching retirement date, the biggest shift we recently made was from stocks to cash. We’ll be holding a larger cash portion in our portfolio until we retire, so that we have the option to borrow it in the near future and invest it elsewhere. (Note that I’m using the terms “stock” and “stock fund” interchangeably, but we only invest in index funds, not individual stocks.)
Our net worth stock exposure was around 62% before the shift. So, we sold some stocks in our retirement accounts and reduced our stock market exposure to 45% of our net worth (not to be confused with portfolio allocation). Stocks make up a much bigger percentage of the investment portfolio. From here until retirement, we want to keep our stock exposure to no more than half of our net worth. Our long-term goal after retirement is to reduce it to 35%.
Since we’re still investing, we’ll still continue to buy stocks in the future as the allocation deems necessary. We’ll have more in stocks then we have today, but we’ll be less exposed, as they’ll represent a smaller portion of the growing net worth. For now, we’re investing very little in stocks because they keep growing on their own without the need for our dollars. So, we continue to invest in other asset types in retirement accounts while saving for our house.
I’m looking forward to more investment options in retirement. For example, we want to increase our REITs to 10% of our investment portfolio, but we can’t buy them in our 401(k)s. So, our goal is to do a Roth conversion, tax and penalty free, and buy more REITs in IRAs.
I believe that once our earning years are over, we won’t need to tinker with the asset allocation as much and we’ll review it on a quarterly basis. For now, we need to continue building the ark. Whether it rains or not, we’ll be ready to move on to our next life stage when the time comes. It’s hard to believe that we will retire within three years. Although we try to enjoy the moment as much as we can, we can’t wait to see how the next chapter in our lives unfolds.