Tuesday, July 3, 2012

Saving up for a... sunny day?

You may have heard the advice that you should have cash on hand to cover living expenses for some few months, just in case - "rainy day" money.  This is very sensible, but... what about sunny days?

Picture a perfectly cloudless June morning, as the gentlest of zephyrs whispers the fresh flush of newly-budded leaves and sends a cat's paws skimming across a lazy river.    Living on a damp little patch in the mid-latitudes where one swirling low-pressure system follows another, remaining anchored to my desk on such a day is exquisite torture.

So, my new savings goal: to arrive, without undue delay, at a point where sunny days are my own. Essentially, to achieve financial independence, to acquire, ahem, feck off money, to be... sort of retired, and to achieve this long before conventional carriage-clock age.

You will be asking the first question I asked...

Can this be done?

With caveats, yes it can.  As it turns out, having a good (but not remarkable) income combined with moderately frugal spending habits and the power of compounding investment gains makes it completely possible, and not even a particularly long-term project.

Imagine an individual - Mr. Sensible - with net earnings of €100 per year, who is able to live on just €60.  We will suppose that this frugal person invests the remaining €40 and achieves a return just under the long-term average for stock markets in developed countries - 8% per annum ( 9% including the dividends).

Assuming smooth market returns (they are never smooth, of course, but that is for a later post), how many years do you think it will be before the annual investment gains exceed the €60 which Mr. Sensible needs to live on?

12 years!

This seemed a bit crazy to me when I first ran the numbers, v If Mr. Sensible is able to retire after 12 years from a standing start, then why is the standard working life 40 or 45 years?  Even assuming Mr. Sensible is being cautious, he can simply keep working and saving for another few years, at which point his own efforts are contributing less to his growing wealth than are his investment gains.

So why aren't we all enjoying those sunny days with Mr. Sensible?  Two reasons:
  1. We spend too much (= save too little).  Many people save nothing, or only 2% - 3% of their incomes.
  2. When we save, we invest our money poorly (in a deposit account where inflation shrinks it slowly, or in a managed fund where the manager creams off enough fees and charges to keep returns well below market rate).
It really is that simple, and, over the next few posts, I'm going to explain how my sunny-day preparations in enough detail that you can do the same.


Some homework - I suggest these excellent resources:

1 comment:

poona said...

I actually enjoyed reading through this posting.Many thanks.

Leather Note Jotter