Author Topic: How do you define FI?  (Read 5316 times)

WageSlave

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How do you define FI?
« on: August 09, 2013, 12:43:06 PM »
A recent poll asked the question, at what age did you or do you expect to hit FI?.  In that thread I made the point that the timeframe can vary dramatically depending on how one chooses to define FI.  To copy and paste from my previous post...

Is everyone just using the 4% SWR as their definition of FI?  I.e., a portfolio value of 25 times annual expenses?  That seems to be MMM's defintion.

I'm personally much more conservative... using the 4% rule implies I'm FI right now (age: 34), but there's no way I consider myself FI.  For one, my portfolio is 75% equities, which are overvalued by roughly 1.5x at the moment.  See also Wade Pfau's blog for rationale on a lower SWR.

So I'm looking at one or maybe both conditions being met to define FI for myself:
  • Normalized portfolio value is somewhere between 33x and 50x my annual expenses.  Those numbers imply a 3% or 2% SWR, respectively.  By "normalized", I adjust the equity portion of my portfolio proportionally to the Schiller PE Ratio relative to the historic median (so right now I'd adjust down about 30%).
  • Actual income (i.e. only dividends, rents, interest payments, not capital appreciation) from my portfolio exceeds my annual expenses, plus some margin of safety (maybe 10% or so).

tooqk4u22

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Re: How do you define FI?
« Reply #1 on: August 09, 2013, 12:58:13 PM »
I define it as having enough income/assets such that you never have to work to provide for your basic needs (food, shelter, clothing, etc) and not your wants.

To me the wants are covered by the RE part of FIRE. 

So FIRE to me means having enough assets/income to cover your needs (FI) and wants (luxuries, travel, good food, whatever) (RE). 

I too am more conservative and believe a 3% SWR is more appropriate now if your stash is primarly comprised of marketable securities and bonds - but if you have other investments such as real estate and the markets are good then the number could be much higher.

arebelspy

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Re: How do you define FI?
« Reply #2 on: August 09, 2013, 01:35:07 PM »
I think we all have a similar definition of FI, close to this:
I define it as having enough income/assets such that you never have to work to provide for your basic needs (food, shelter, clothing, etc) and not your wants.

We just all will have a different level of what it requires to feel that way for ourselves.  Some have a higher risk tolerance, some have different investment types, some have different income needs, some have different streams of income kicking in at different times (SS or no, pensions or no, etc.)

So we all mean (more or less) the same thing when we say FI, but you might not feel it at the same time and level as someone else in your exact situation.  That's because some of it is dependent on you.

FI doesn't mean "25x your annual expenditures in assets"; though that may be what some require to be FI, it may not be enough for others.  FI is a mindset that encompasses tooq's quote above.

The question, then, seems silly to me, unless you're asking an individual what they require to be FI.  That would be a more precise question, IMO.
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tooqk4u22

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Re: How do you define FI?
« Reply #3 on: August 09, 2013, 01:35:51 PM »
I'm personally much more conservative... using the 4% rule implies I'm FI right now (age: 34), but there's no way I consider myself FI.  For one, my portfolio is 75% equities, which are overvalued by roughly 1.5x at the moment.  See also Wade Pfau's blog for rationale on a lower SWR.

While I like the idea of the shiller PE as one data point it isn't the end all. If you look at the data your 1.5x is based on the historical average since records date to, but if you look at the last 10, 20, 30 and 40 years the averages are 23, 26, 22, and 20 respectively so we are not that far out of whack in modern era. So why is this, well I have pointed this out in other posts but debt from all aspects (consumer, corporate, government) exploded during those periods thus driving more consumption then more leverage then more consumption and so on.   Historically increasing debt has led to inflation but this didn't happen over the last few decades because of technoligical advances of all kinds including and food, transferring manufacturing jobs overseas, and declining interest rates.  All of which is not duplicative and will cause the economy in the US to be basically flat for the foreseeable future (call it 10 years or so). 

Doesn't mean we are doomed or won't have any growth but this should be factored into the analyis.


WageSlave

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Re: How do you define FI?
« Reply #4 on: August 09, 2013, 01:51:11 PM »
I think we all have a similar definition of FI, close to this:
I define it as having enough income/assets such that you never have to work to provide for your basic needs (food, shelter, clothing, etc) and not your wants.
The question, then, seems silly to me, unless you're asking an individual what they require to be FI.  That would be a more precise question, IMO.

Yeah, you're supposed to read my mind and answer what I meant, not what I wrote.  :)

But yes, I agree, tooq's quote is a reasonable "standard" definition of FI.  And you're right, what I was really getting at is this: What criteria are people setting for themselves to be in the state of "having enough income/assets such that you never have to work to provide for your basic needs"?


arebelspy

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Re: How do you define FI?
« Reply #5 on: August 09, 2013, 03:38:46 PM »
What criteria are people setting for themselves to be in the state of "having enough income/assets such that you never have to work to provide for your basic needs"?

Cash flow > monthly expenses + safety cushion.

Maybe a 7% "SWR."
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.
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secondcor521

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Re: How do you define FI?
« Reply #6 on: August 09, 2013, 11:40:57 PM »
I used the 4% rule, and in my case look for 25x adjusted-for-RE expenses excluding home equity and after setting aside a lump sum to pay off the remainder of the mortgage and the child support expenses.

I understand the two extra adjustments you make but for me I think they are two extra levels of safety factor that I personally don't require because I think they are already included in the 4% rule (based on my understanding of the studies that have been done).

However, I'm now mentally considering myself part of the OMY club, so even though I'm FI by my own definition, I'd still like to pad things some more.  Not particularly rational, I know, but there it is.  Perhaps I agree with those who think that a 4% rate at age 44 is a tad optimistic.

I'm now down to a 3.22% pro forma withdrawal rate, which means about 31 years of expenses in the bank.  I think that's getting in the ballpark of being a legitimately (IMHO) safe WR.

Ozstache

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Re: How do you define FI?
« Reply #7 on: August 10, 2013, 02:29:42 AM »
As I will be receiving a semi-COLAed pension to work with my FU stash, the standard SWR terminology doesn't quite work for me because my withdrawal rate is initially none but gradually increases as my pension erodes against true COL in order to maintain the same spending level in today's dollars out to age 100. I've also added a 10% buffer to my current annual spend level as a contingency measure.

2527

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Re: How do you define FI?
« Reply #8 on: August 10, 2013, 06:28:34 AM »
I certainly don't consider the value of my home because I don't think it is an investment asset.  4% withdrawal seems a little high for somebody who plans to start the withdrawals in his or her 40s or 50s.  I tend to go with a withdrawal rate someplace between dividend payouts or 3%. 

However, I think the basic numbers are, the stock market has historically returned around 9%, and inflation has historically averaged about 3.5%.  Reduce 9% to 8% because the future doesn't predict the past, and there may be some investing buffoonery, but still, 8-3.5 = 5.5%, with any payout received being used to cover the taxes on the payouts.  Also, this assumes we take our percentage, either 3% or 4% or whatever as a percentage of that year's financial net worth, not setting 4% this year and adjusting it up for inflation every year thereafter.  That second way I just described is much riskier financially, but the first way causes fluctuations in yearly payouts that we would need to budget for and handle.

The topic I have more trouble defining is what standard of expenditure I want to live at, and what I am willing to do to get it.  Move to a lower cost area?  Do less financially for my kids in the future, perhaps less than my dad did for me?  I have more trouble with those topics.

meadow lark

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Re: How do you define FI?
« Reply #9 on: August 10, 2013, 09:43:47 PM »
In all my calculations I use 4%, but there is a lot of flexibility and redundancy built in.  Expecting part-time work, social security, a very small pension, an inheritance, and I am not including any of those income streams in my calculations.  Damn!  Wonder if I am FI already?  JK.

tomsang

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Re: How do you define FI?
« Reply #10 on: August 11, 2013, 10:36:52 PM »
What criteria are people setting for themselves to be in the state of "having enough income/assets such that you never have to work to provide for your basic needs"?

Cash flow > monthly expenses + safety cushion.

Maybe a 7% "SWR."

Arebelspy - How do you value your rentals?  I assume your 7% is so high as the estimated value of the homes are generating a high return on networth.  So the other way to look at it is your networth actually a lot higher if you use the NPV of the income off the houses.

I am curious as I have attained ownership over the past two years in a few ventures based on some help that I provided. In one case it generates $20-$30k per year in net income/dividends with growth potential and the other one is about $10k per year. For my net worth I used what other investors paid for the shares, but that is a 40%+ return on investment. It is more academic, as I look at conservative income generation by asset class to base FI as well as a goal of 3.25% SWR.  With the 3.25% being farther out in years.

arebelspy

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Re: How do you define FI?
« Reply #11 on: August 11, 2013, 11:36:32 PM »
What criteria are people setting for themselves to be in the state of "having enough income/assets such that you never have to work to provide for your basic needs"?

Cash flow > monthly expenses + safety cushion.

Maybe a 7% "SWR."

Arebelspy - How do you value your rentals?  I assume your 7% is so high as the estimated value of the homes are generating a high return on networth.  So the other way to look at it is your networth actually a lot higher if you use the NPV of the income off the houses.

I am curious as I have attained ownership over the past two years in a few ventures based on some help that I provided. In one case it generates $20-$30k per year in net income/dividends with growth potential and the other one is about $10k per year. For my net worth I used what other investors paid for the shares, but that is a 40%+ return on investment. It is more academic, as I look at conservative income generation by asset class to base FI as well as a goal of 3.25% SWR.  With the 3.25% being farther out in years.

Correct, I value them at the equity I could cash out (I.e. fair market value minus debt, I ignore selling costs, though I go back and forth on that), but the return is high on them.  I could value them at some NPV based on a made-up discount rate to make the numbers come out neatly and in order to make my SWR seem lower, but that seems like the tail wagging the dog.

I'd rather just get a comfortable cash flow + cushion and not care what my "SWR" turns out to be.
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.

Mr Mark

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Re: How do you define FI?
« Reply #12 on: August 12, 2013, 08:00:14 AM »
The old 4% swr rule can never be a one size fits all parameter with a problem so complex and fully dependent on a legion of assumptions about the long term future.

And even in the limited modeling and analysis based on the past, it only really applies to the portion of your stash in a mixed stock/bond portfolio. Not to other investments, like real estate, property development, forestry, businesses, etc.

So for me it means having sufficient passive income to meet all long term expenses for a middle class lifestyle (frugal)  without having to work. So that you could literally go fishing all day.

In reality, I agree with mmm, that opportunities will come along you want to do for the sake of it, yet they will also generate income. Not relying on this income is a cushion. Do you want to count on social security? Some do, some don't. If you don't, that's another cushion. Do you count a fully owned home as part of the stash? I would say yes, but some say no, and that's another big cushion.

But I would note that most people are too conservative in their perception of risk, and thus delay FIRE because of worries about the far far future. Optimism gun fail.

mpbaker22

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Re: How do you define FI?
« Reply #13 on: August 12, 2013, 08:05:40 AM »
I'm personally much more conservative... using the 4% rule implies I'm FI right now (age: 34), but there's no way I consider myself FI.  For one, my portfolio is 75% equities, which are overvalued by roughly 1.5x at the moment.  See also Wade Pfau's blog for rationale on a lower SWR.


While this may mean chances of 4% SWR failure are higher, the studies showing 4% SWR is effective 95% of the time, would still apply.  The point being, those studies take into account these situations when they say it works 95% of the time.  For one thing, we don't know what earnings are going to be in the future.  Maybe P/E is 24 because earnings are going to rise 50% next year.

Cecil

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Re: How do you define FI?
« Reply #14 on: August 12, 2013, 08:30:46 AM »
Also don't forget that a P/E of 24 means your portfolio is "earning" 4.17%.

The total value of your assets doesn't matter at all. You can be FI with 15x your annual expenses or not with 40x your expenses. What matters is that your assets earn enough money to support you.