FIRE
When talking about personal finance, you might have heard about the concept of FIRE. Wait, before you light any matches, FIRE doesn’t have anything to do with actual flames. FIRE stands for Financial Independence, Retire Early. Besides it being an awesome acronym, let me also tell you how it has changed my life.
So FIRE = Financial Independence Retire Early, but what does it mean?
Basically, it means you save a lot of money and then you are free to do whatever you want. Do you want to retire before 35 and drink margaritas on the beach all day? Go right ahead. Or maybe you are one of those unicorns that truly loves working and wants to keep doing it forever and ever? Be my guest, I’m not your boss. The point is that you have a choice. You are financially free to do whatever you want. You can keep working, you can retire, or anything else in between.
For me, it’s finally having time to write that perfect novel and to volunteer in some awesome baby turtle nature conservation projects. Those are the things I dream about when I think of true happiness. Yes, I could do those things right now, but writing a novel takes a lot of non-paid time and volunteering with baby turtles costs a lot of money. So I need a steady stream of passive income before I can devote my time to non-paying things. And that’s where FIRE comes in.
What is the 4% rule?
Saving enough money to achieve financial freedom so you can do whatever you want sounds simple enough, but unfortunately, it isn’t. Because how much is enough money? How do you calculate for something so far in the future? How can you be sure you don’t run out somewhere down the line? Well, you can’t. There is a certain risk involved with going for this lifestyle. But if the recent worldwide pandemic has taught us anything, then it is that anything can happen and we barely have any control over it. People with good, stable jobs suddenly lost (a part of) their income because of shutdowns or restructuring. Perfectly healthy people ended up in the hospital. As long as you are aware of the risk, you can make an educated discussion on whether or not this kind of lifestyle might be for you.
FIRE doesn’t rely on just saving money. On the contrary, it is actually against simply saving money and putting it in a savings account. Savings accounts are a terrible idea. Why? Because you can’t beat inflation, not even with a high yield savings account. So why other options are there?
The stock market. I know, a lot of people have negative feelings about the stock market. How could you not, with movies like The Big Short and The Wolf of Wall Street? I’m convinced we (the average human) can use the system to our advantage too. Did you know that in the last 50 years the annual return of the S&P 500 is about 11%? That’s a lot more than your average savings account.
The whole concept of FIRE is based on the assumption that you can safely withdraw 4% of your investments each year and not run out of money, the so-called 4% rule. It is a rule of thumb that many rely on, but of course, it is not set in stone. You can adjust your withdrawal rate to your own personal situation or to the current market situation. You might want to withdraw just a bit less when the market is down or just a bit more when the market is up. Flexibility is key here.
So according to this 4% rule, how much do I need to invest into the market before I can FIRE? Let’s get our math brains on. First, calculate how much your yearly expenses are going to for. For example, let’s say you need about $20.000 a year. Now we just multiply that number by 25 and we get $500.000. That’s how much you need if you want to withdraw $20.000 (or 4%) each year.
Where do I begin with FIRE?
FIRE is just the basics. Once you get sucked into this world, you’ll discover there is so much more: leanFIRE, fatFIRE, barristaFIRE, or coastFIRE. It all becomes a game. You set a goal somewhere in the future. When you look at it today, it seems impossible, but when you split it up into little goals, it suddenly becomes a lot more realistic. You find ways to get to your goal faster and with more fun. You feel like you’re beating the system.
But how do you actually start? As I said, save a lot of money. The internet is full of tips and tricks to decrease your spending or hack your finances, but before you can start with all that you need to get a good look at your income and expenses. What is coming in each month and what is going out? Spreadsheets and apps are your new best friend.
Track everything. Yes, everything, even those crappy $2 gas station coffees. You might think you have a good handle on your financials, but I can promise you, there will be some surprises. Tracking everything that comes in and goes out every month gives you a good oversight on where the money is going. Is it all going to rent, utilities and food? Then there is not a lot of room for more savings. But maybe a good chunk is going to take out, beers with your buddies, or crappy $2 gas station coffees? Then we have an opportunity. I’m not saying you can’t have fun anymore or are not allowed to eat out, but you need to be more conscious about where that money came from and where you are spending it. Suddenly, that $2 coffee doesn’t seem that necessary anymore, does it?
The next step is to start investing your money. Not all your money, only invest the money that you won’t be needing in the next three years. Be aware that there are always risk when you invest money in the stock market. There is no guarantee and it is possible that you lose all your money. However, if you play it smart and diversify, you can severely limit your risk. Want to know more about investing in the market? I’ll make a complete blogpost about it soon.
Patience and Perseverance
The last step might be the hardest step. Patience. It takes time to build net worth. And it is true what they say, the first $100.000 is a lot harder than the next. So start small. Set achievable goals and keep a timeline. Don’t panic when the market goes down, because it will go down at some point. Remember that in the long turn, the market always goes up. Have faith in this.
Also, don’t waste any time trying to time the market. There are numerous statistical studies that show that it is next to impossible to beat the market. Wall Street people who say they can are simply scamming you. Time in the market always beats timing the market. The sooner you invest, the sooner your money can start working for you and earning you more money. Don’t wait for that big dip or high rise, because you’ll always be just too early or just too late. Give yourself some peace of mind and set a schedule of investing a certain amount every month and keep to it, no matter what the market does.