Author Topic: Importance of Stock Returns to FI  (Read 6190 times)

AdrianC

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Importance of Stock Returns to FI
« on: December 16, 2015, 07:14:55 AM »
I read The Millionaire Next Door and The Millionaire Mind about 15 years ago. In one of those books it said that investing in stocks wasnít a very important factor in explaining many millionairesí financial success. This was quite a disappointment for me. I was a new investor dazzled by recent market returns. I was counting on the market to get me to FI, and soon.

We invested anyway, and beat the S&P500 over those 15 years (7% vs 5% annually). What we found though, was that those millionaires were right. Investing in stocks wasnít a very important factor in explaining our financial success. It contributed, sure. About 25% of NW. But we would have been OK even with zero return on stocks and bonds.

What worked for us were high earnings from self employment and spending less than half of what we made.

It would be interesting to hear otherís stories. How important has stock returns been for your journey to financial independence?

arebelspy

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Re: Importance of Stock Returns to FI
« Reply #1 on: December 16, 2015, 07:48:49 AM »
Not important at all. My hubris with investing in stocks set me back, actually.

However, while market returns aren't important for getting there for most early retirees, because our savings swamp our returns, they're SUPER important for long term portfolio longevity (I.e. not having to go back to work).  If you're going to be retired and not contributing to your portfolio, but living off of it, for 50 years, it had better be invested well to handle that (I.e. Hedge against inflation, have solid real returns in the long run).
I am a former teacher who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and am now settled with three kids.
If you want to know more about me, this Business Insider profile tells the story pretty well.
I (rarely) blog at AdventuringAlong.com. Check out the Now page to see what I'm up to currently.

Rubic

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Re: Importance of Stock Returns to FI
« Reply #2 on: December 16, 2015, 07:54:17 AM »
MMM actually makes that point that your savings rate is more important than your investing prowess:

http://www.mrmoneymustache.com/2011/04/26/why-hardcore-saving-is-much-more-powerful-than-masterful-investing/

dude

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Re: Importance of Stock Returns to FI
« Reply #3 on: December 16, 2015, 08:26:05 AM »
According to my last annual 401k statement (EOY 2014), I contributed lifetime $204,706 to that point (16 years).  My account balance at year end 2014 was $481,682.  With $23,100 contributed so far this year, that makes $227,806 lifetime contributions to date. Current balance is $519,042.  So market returns have accounted for 56% of my account balance.  That seems pretty significant to me.

fattest_foot

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Re: Importance of Stock Returns to FI
« Reply #4 on: December 16, 2015, 09:27:45 AM »
Looking at my own portfolio projections, it's not until around the mid six figures where the market returns become important. Until then, it's mostly about savings rate.

DaveR

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Re: Importance of Stock Returns to FI
« Reply #5 on: December 16, 2015, 10:28:28 AM »
The importance of returns are related to savings rate, in a nonlinear way:

Savings rate : Return importance (at 7% return, 4% SWR)
75% : 18%
50% : 40%
40% : 50%
30% : 58%
20% : 69%
10% : 81%
 5% : 89%

For example, if you save 50% and get a 0% return, it will take you 25 years to build up a stash to support a 4% SWR. If you get a 7% annual return, it only takes 15 years. Returns shave 10yr off the time.

However, if you only save 10% it will take you 225 years to build up a stash to support 4% SWR. That 7% return over such a time horizon starts making a difference, so cuts 183yr off the time, accounting for 81%.

High savings rate means shorter time horizons...so compounding has less importance.

Malum Prohibitum

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Re: Importance of Stock Returns to FI
« Reply #6 on: December 16, 2015, 11:26:16 AM »
High savings rate means shorter time horizons...so compounding has less importance.
Excellent point.

GuitarStv

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Re: Importance of Stock Returns to FI
« Reply #7 on: December 16, 2015, 11:32:22 AM »
High savings rate means shorter time horizons...so compounding has less importance.
Excellent point.

I think it's a poor point . . . high savings rate means shorter time horizons before retirement.  Your savings will still be compounding the entire time you're retired and drawing from them though, so compounding is always very important.

matchewed

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Re: Importance of Stock Returns to FI
« Reply #8 on: December 16, 2015, 11:33:15 AM »
Well then let's put it this way. It is not so important for reaching FIRE, it is important for maintaining FIRE status.

TheAnonOne

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Re: Importance of Stock Returns to FI
« Reply #9 on: December 16, 2015, 11:46:12 AM »
Well then let's put it this way. It is not so important for reaching FIRE, it is important for maintaining FIRE status.

Agreed,

I don't get the confusion around this. Compounding works as a percentage on a value. You have no money when you start, and less than you need until you fire. When a market goes up by 10% in a year, but you contributed 50% more simply by savings, it is obvious why it doesn't matter.

However, THE ENTIRE POINT of investing is the returns. So to say that they are not important is to say that investing is not important which is clearly not true.

This argument, in a way, explains the 'One More Year' syndrome. Even at your FIRE point, your savings will likely outpace returns, and would continue to do so for many years after your FIRE amount.

iamlindoro

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Re: Importance of Stock Returns to FI
« Reply #10 on: December 16, 2015, 11:48:23 AM »
IMO returns are less critical than flexibility after RE.  Most in the FIRE community are looking at withdrawing 4% or less of their portfolio per year.  This means most people will have ample notice if things are starting to look truly critical, whether because average returns are poor for a long period, or because of a major recession or depression.  At that point, you're presented with a series of options.  You could go back to work full time, you could find some sort of income part time, or you could reduce expenses. 

If you've retired in the developed world, and you're dead set against going back to work in any way, you have a lot of options when it comes to retirement locations in the developing world where your money will go a long, long way further.  If you've retired on a cut-to-the-bone budget in the developing world, you've got much more limited options. 

TL;DR: People who are inflexible will have a much harder time weathering sub-optimal conditions in RE.  People who are flexible with regards to lifestyle, but who failed to save sufficient margin will also have trouble.

arebelspy

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Re: Importance of Stock Returns to FI
« Reply #11 on: December 16, 2015, 12:45:58 PM »

Well then let's put it this way. It is not so important for reaching FIRE, it is important for maintaining FIRE status.

This is what I tried to say, just said much better. :)
I am a former teacher who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and am now settled with three kids.
If you want to know more about me, this Business Insider profile tells the story pretty well.
I (rarely) blog at AdventuringAlong.com. Check out the Now page to see what I'm up to currently.

tooqk4u22

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Re: Importance of Stock Returns to FI
« Reply #12 on: December 16, 2015, 02:48:32 PM »
According to my last annual 401k statement (EOY 2014), I contributed lifetime $204,706 to that point (16 years).  My account balance at year end 2014 was $481,682.  With $23,100 contributed so far this year, that makes $227,806 lifetime contributions to date. Current balance is $519,042.  So market returns have accounted for 56% of my account balance.  That seems pretty significant to me.

That is how much you contributed but also add how much your employer contributed....and if your employer contributed in its own stock and that stock outperformed the broader market you should adjust for that as well.

DaveR

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Re: Importance of Stock Returns to FI
« Reply #13 on: December 16, 2015, 04:18:34 PM »
Well then let's put it this way. It is not so important for reaching FIRE*, it is important for maintaining FIRE status**.

* for the typical high-savings-rate mustachian where the majority of the 'stach is built from savings, not returns

** to support a 4% SWR... real (inflation adjusted) dollars, so 4% + ~2.5% = ~6.5% nominal annualized returns. That's more than the risk-free rate, so "investing" in "risky" assets matters. A 4% real annualized return isn't high risk, but to get there means riding out the ebbs and flows of the markets

AdrianC

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Re: Importance of Stock Returns to FI
« Reply #14 on: December 17, 2015, 04:57:45 AM »
MMM actually makes that point that your savings rate is more important than your investing prowess:

http://www.mrmoneymustache.com/2011/04/26/why-hardcore-saving-is-much-more-powerful-than-masterful-investing/

Should have known MMM would have written about this. Nice article.

AdrianC

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Re: Importance of Stock Returns to FI
« Reply #15 on: December 17, 2015, 05:08:58 AM »
Well then let's put it this way. It is not so important for reaching FIRE, it is important for maintaining FIRE status.

That's it!

Dances With Fire

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Re: Importance of Stock Returns to FI
« Reply #16 on: December 17, 2015, 06:28:31 AM »
Well then let's put it this way. It is not so important for reaching FIRE*, it is important for maintaining FIRE status**.

* for the typical high-savings-rate mustachian where the majority of the 'stach is built from savings, not returns

** to support a 4% SWR... real (inflation adjusted) dollars, so 4% + ~2.5% = ~6.5% nominal annualized returns. That's more than the risk-free rate, so "investing" in "risky" assets matters. A 4% real annualized return isn't high risk, but to get there means riding out the ebbs and flows of the markets

^^^This! Thanks Dave, this is what I was thinking as well. "Enough" added risk with "expected" (SWR) returns of 3-4% in retirement.

dude

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Re: Importance of Stock Returns to FI
« Reply #17 on: December 17, 2015, 08:54:31 AM »
According to my last annual 401k statement (EOY 2014), I contributed lifetime $204,706 to that point (16 years).  My account balance at year end 2014 was $481,682.  With $23,100 contributed so far this year, that makes $227,806 lifetime contributions to date. Current balance is $519,042.  So market returns have accounted for 56% of my account balance.  That seems pretty significant to me.

That is how much you contributed but also add how much your employer contributed....and if your employer contributed in its own stock and that stock outperformed the broader market you should adjust for that as well.

No employer stock, just matching contributions.  Regardless, the returns on those contributions now account for 56% of my account (i.e. the greater portion).

AdrianC

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Re: Importance of Stock Returns to FI
« Reply #18 on: December 18, 2015, 03:10:30 PM »
No employer stock, just matching contributions.  Regardless, the returns on those contributions now account for 56% of my account (i.e. the greater portion).

That's cool.

How does your investment gain compare with your FI goal?