In my previous post, I told you all about my story. I also told you how I track my current expenses, which gives me visibility of what to expect in retirement. This enabled me to calculate my FI number. What follows is a comprehensive, deep-dive into the many strategies I’m utilising to get me to FI in the shortest amount of time possible, without putting a metaphorical limiter on our lifestyle. It’s a constant balancing act and, as I mentioned several times in the last post, it’s about remaining flexible, trying new approaches, finding what works for you, optimising it, and then finding what doesn’t work for you and scrapping it. I’m confident that the vast majority of you will be successful in implementing >90% of the strategies I’ll be describing below and in future posts. Let’s get stuck in! The first Strategy in this series:
The Power of Compound Interest – Start Sooner Rather Than Later!
The first strategy I want to discuss with you is compound interest. You may already be familiar with the concept, in which case you can skip to the next strategy. Compound interest is essentially the process by which an amount of money compounds over time to yield exponential gains. For example, say I have £1000 invested in a low-cost index fund that tracks the United States S&P 500. The average return for this index is just below 10% per year (https://finance.yahoo.com/news/p-500-average-annual-return-231601665.html). So, let’s assume we’re 20 years old and we keep this £1000 invested in the fund until retirement at 50 and save nothing in addition. That’s 30 years. If I go to any compound interest calculator online, I’m using www.thecalculatorsite.com this is what I put in:
And here’s the results:
As you can see, the balance ramps up over time and without doing anything, the £1000 you started out with is worth a cool £13,267.68 30 years later. And that doesn’t account for the dividends you’d receive from being invested in the tracker fund, which further compounds your balance.
Pretty cool, right? But £13k is chump-change. That’s not going to support anyone in retirement for several decades. So, let’s talk real money then. I’ll use myself when I started on this journey so it’s more reflective of your likely situation. I had just opened an investment account with Freetrade (more about who to invest your cash with in Strategy #3) and deposited my first £100. Based on my salary at the time I was aiming to save and additional £250 on average per month, on top of my company pension. My company offers a lousy 4% match which I have maxed out. Should they increase the match in the future, my contribution will follow suit. Anyhow, I was going to invest these additional savings myself, separately, until I was 55. Some months it was less, some it was more. Again, remaining flexible as life is bumpy sometimes. So, let’s put these numbers into the calculator again. This was my plan at the time:
And this was the results:
Based on my target retirement age of 55, I was going to have a cushty £347,974.21! Again, this doesn’t account for dividends which will add multiple thousands of pounds in the latter years of this example as the money earned from that will be reinvested and yield yet further interest and greater dividends. The ‘snowball effect’. It’s a beautiful thing!
Also, you’ll notice I’ve added another factor to this equation – the ‘increase deposits yearly with inflation’. This is because my pay will increase by a minimum of 2% each year, which I intend to save. As I’m earlier in my career and very ambitious, I can safely assume that some promotions will come along which will yield pay increases far in excess of 2%! Historically, the two promotions I’ve received so far have yielded pay increases in excess of 12%. So, this is a very conservative estimate. But it’s important to hope for the best and plan for the worst when it comes to money. A mantra I choose to live by when it comes to planning for early retirement.
The thing I was most pleased about, was that this didn’t include my company pension. And I could apply the exact same logic to this pot of cash as it was invested in almost exactly the same way, just with a lower expected return rate. These pension providers are ever the pessimists. But I will apply their view and change the rate of return to 6% based on my selected pension investment fund at the time.
The below is what my situation was at the time. I’d been working there for over 4 years, had about 15K in my pension pot and was contributing £245.66 per month, including the company contribution. I have my pension set up to pay out at the youngest age possible, 55, which gives me another 26 years of saving to do. This also assumes my contributions only rise by 2% per year.
And the result:
So, I have two, conservative estimates for my two pots of cash! You’ll remember from the post before that I needed a stash of £569,421.25 in order to cover the estimated retirement expenses that I’d figured out using my spreadsheet. With the two figures I’d deduced form the above, I was set to have a total of £634,985.88 by the time I hit 55 if I barely increase my contributions. Well, this is more than I need. I could retire 3 years sooner dividing the difference between these two figures by my annual required income of £22K! And that may be the case. But, remember the mantra, hope for the best, plan for the worst. 55 is my worst case. It’s highly likely I will be retiring before this once you factor in dividend compounding and increased contributions over more than 20 years. But for now, 55 is my target. If I do better, fantastic.
The importance of starting early!
Now I want to talk to you about the power of starting this saving journey as soon as possible! Let’s imagine for a second that your 16-year-old self was reading this and decided to start saving £100 per month from their 16th Birthday until they were 60 and never added a penny more despite earning more as their career grew. This blew my mind:
Yes, you’d essentially be a millionaire. This is why I repeatedly emphasise to start saving NOW. Even if it’s just small amounts. Do it. You will thank me, and yourself in the future. I wish I knew the power of compound interest when I was 16 and I started my first job in a convenience store. I’d be retiring MUCH sooner than in my 50’s. Fortunately for my daughter, her path to early retirement started as soon as she was born and as you can imagine, she’ll be learning all about these strategies so she can retire maybe as early as her 30’s! If she wants to of course. That’s the greatest gift I think anyone can give their child. Absolute freedom to choose to work or have unlimited free time to do whatever she loves.
Next up in this series: Your company pension plan. It is probably not optimised. But fear not! I’ll explain how I have maximised my gains and how you can do the same!
If you’re getting value from these posts and want to receive notifications of my future posts so you never miss a strategy, please subscribe below to join the FSD notification squad. Also, leave a comment below and let me know your thoughts on compound interest! Did you already know about this? Are you/will you be taking advantage of this incredibly powerful tool? Let’s start a conversation!