You should invest because you CAN afford to
First things first.
You might be thinking it’s simply not viable for you to invest, as you have no extra income. But it’s extremely unlikely that if you are reading this, you cannot afford to invest.
No matter how much you earn, you should aim to be saving & investing a high percentage of your salary. You can start small. But as your income grows, a 50-80% savings rate is not unrealistic if you can avoid lifestyle creep.
If you feel like you simply cannot afford to invest, you need to evaluate your outgoings honestly. Create a budget to work out how much you can afford to invest, as that will inform your goals.
You may need to address short-term financial objectives first, such as:
- Paying off any high interest debt
- Building an emergency fund of 3-6 months of expenses
- Save for a housing deposit
Having a stable financial situation and a clear budget will allow you to create realistic investment goals.
The opportunity cost of not investing
Now that we know you can invest, let’s talk about the risk involved in choosing not to invest.
People do not invest because:
- They have no idea how to get started with investing (we can help).
- The stock market is scary, and a bank account is safe.
But a bank account isn’t really safe. If you do not invest, know that you are being robbed every year by a thief named inflation.
As things get more expensive, the amount of goods and services you can purchase with your cash – the buying power – falls. See an example of the eroding power of inflation here.
You are paying a price for the ‘safety’ of your cash – the fee is inflation. Though it appears your money is not falling in value, it very much is in real terms.
Whatever your goals, you are much less likely to reach them if you do not invest.
So we now know we can invest and the risks involved in not investing. What goals should we consider? Let’s start with a fun one: ‘F-You money’.
Inspired by investment guru J.L. Collins, F-You money is a mentality as much as it is an investing goal.
When you reach the stage that you have significant wealth from investing (becoming financially independent) you are afforded a new freedom. You are given the ability to, at any moment, say “F-You” to anybody trying to make you do something that you don’t want to do.
You might love your job today, but one day your boss might annoy you to point you wish you could say F-You. Watch this edited video from The Gambler, starring the aforementioned Mr. Collins, for more on this lifestyle.
Until you have F-You money, your ability to take risks & follow your dreams is severely diminished. F-You money allows you to pursue the life you truly desire.
When you live paycheck to paycheck, you are shackled to a job you might one day despise (if you don’t already, that is). F-You-money is a weight off your shoulders; you are independent and can walk away from anything impacting your enjoyment of life.
As brash and lavish ‘F-you money’ sounds, having F-you money is really just a safety blanket. No matter how good things are going in the economy or at work, you might be out of a job tomorrow.
Obtaining F-You money as protection against the randomness of the world is a completely valid goal.
FIRE: Financial Independence, Retire Early.
F-You money is really about achieving financial independence. FIRE takes that one step further: early retirement.
FIRE is a movement with real momentum. Many are waking up to the fact that they don’t want to spend most of their waking hours chained to a desk, working in a job they can barely tolerate.
FIRE is about building enough wealth to become financially independent first, and hopefully retiring early, second.
In extreme cases of frugality and wealth building, some pursuing FIRE are able to achieve it before reaching 40. It sounds fantastic on paper but takes real sacrifice and a significant income. Early ‘FIRE-ing’ is usually then followed by a relatively frugal lifestyle to ensure the money lasts the rest of your life.
Retiring in your 30’s is unrealistic for most. But retiring before 65 (or perhaps retirement age will be in our 70’s soon) I would argue is a universally desired goal. The principles of FIRE can help us achieve that.
Using the 4% rule, you can create a financial target that will ensure you don’t go broke. Studies have shown that limiting expenditure to 4% of your wealth per year (whilst continuing to passively invest) is ‘safe’, bar some extreme economic situations.
So, if your retirement pot is $1 million, that would allow you to spend $40,000 in the first year of retirement following the 4% rule. That number grows each year with inflation.
What this means is, as long as your expenses are no more than $40,000 per year, you are set for life.
To plan for FIRE, you should first work out what percentage of your income is going to pension/retirement accounts and your investments. Retirement accounts are often extremely tax-efficient and therefore worth maximizing.
A good rule for pension is to contribute at least half your age as a percentage from the time you start contributing to a pension. So, if you start contributing to a pension at age 30, you should aim for at least 15%.
The rest of your investment should be in tax-efficient accounts (Roth IRA or ISA’s in the UK), which you will use to bridge the gap between retirement age and access to your retirement funds.
Retirement may seem like a distant goal now, but when you’re 50, you’ll be thankful you started thinking about it today.
We have a full FIRE (Financial Independence Retire Early) guide here.
It’s true that a new car is one of the worst purchases decisions you can ever make, financially.
The car payment, the high rate of depreciation, maintenance cost, insurance, servicing, fuel (and more) are all contributing factors. But it is the opportunity cost of what you could be doing with that money that hurts the most.
If you instead passively invested all that money spent on a new, expensive car, it could allow you to retire 10 years earlier. Really!
Material possessions in general are, in my opinion, not fulfilling goals to work towards. Keeping up with the Jones’ is going to be a huge drain on your ability to create wealth. Worse, those possessions you crave can leave you feeling hollow.
With that said, if you have dreamed all your life about owning a Ferrari, and cars are truly what get you out of bed in the morning, go nuts.
We all love shiny new toys, so there is no need to shun them entirely. But do understand the true cost of these toys, and that the value you extract from them might be underwhelming.
Balancing living in the moment vs. investing for the future
You might say life is for living; there’s no point in being the richest person in the graveyard.
I agree, to an extent. Investing can be quite addictive. As your money pile grows, some can take this to extreme levels of frugality.
You can start to undervalue ‘priceless’ experiences that are possible from travelling the world or following your passions. Equally, generosity to friends, family and charity can be incredibly fulfilling.
Investing is important and should be prioritized, but I am not advocating you forego any enjoyment in life and become a Scrooge McDuck.
Enjoy your life. You absolutely should pursue hobbies & passions that bring you happiness with money you accumulate through investing.
You might not want to die rich, but don’t forget that one day you might have a family to leave that money to. Passive investing can create generational wealth that allows your offspring to be comfortable when you’re gone.
If you have no offspring, nieces or nephews, then your goal can be to live off and run down your investments, using the 4% rule. The goal here isn’t to die rich, it is to live a wealthy & fulfilling life.
I still have no idea what I should invest for!
That’s ok, you don’t need a crystalized financial goal right now. You should still start investing today, your future self will thank you.
That’s because one day, your goal will materialize. Be that early retirement, a career break, a new yacht, a medical emergency, a vacation home in Lake Como – who knows.
Remember that money does not buy happiness, but money does buy the freedom to pursue the things that might bring you happiness. If you can retire at 45 and start writing the novel you’ve had in your head for decades, then your investments are buying you the time to do this.
Make sure you take control of your finances today. You can get started with our beginners guide to passive investing.