I want to present you with a simple question. If you could cut your spending in half and have no impact on your life and happiness, or if you could find a way to double your investment returns for the next 20 years, which option would you choose? Which option would get you to financial independence and early retirement faster?
Sally the Saver and Ivan the Investor
Sally the Saver: Sally works a great job that she loves, and makes a very decent salary. She lives a simple, happy life, cutting expenses in areas of her life she finds little value and spending in areas that bring her the most happiness. She doesn’t spend lots of time and energy trying to beat the stock market, instead investing in index funds and happy to accept 8% average returns over the next 20 years.
Ivan the Investor: Ivan works at the same job that Sally does, and makes the same salary. Ivan is a bigger spender than Sally, with a much bigger house and more expensive car. He isn’t any happier than Sally, but he certainly has more stuff. Ivan, however, does have one advantage over Sally. He is an amazing investor, averaging 15% per year in investment returns. (For context, Warren Buffet only averages 20% over his career.) However, the extra returns require a lot of his free time, which he doesn’t plan to do in retirement. So afterwards, he will invest in index funds like Sally. Because of his higher investment returns, Ivan isn’t too worried about his spending habits, since he believes his investment returns will be enough to make up for it.
Both hope to retire in 20 years. The question is, will both be able to retire?
The graph below shows how both Ivan and Sally’s savings would grow over time.
Over this 20-year span, Sally has seen her net worth grow tremendously, allowing her to build up enough savings to cover her annual spending of $50,000. Her steady savings rate and early investments has plenty of time to grow and she significantly outpaces Ivan.
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Ivan, on the other hand, could find great investments that beat the average market returns. However, his spending habits left him with little money to invest. He invested what he could, but after 20 years, Ivan only as $1,000,000 compared with Sally’s $2,300,000. In fact, if Ivan and Sally both decided to continue working, it would take Ivan 35 years to even catch up with Sally.
Real Life Sally’s and Ivan’s
We’ve all heard of the Ivan’s of the world. Warren Buffet, Ben Graham, Peter Lynch, and George Soros are just a few names that top the list of world’s best investors. Some, like Warren Buffet, have made their names by steadily beating the market over extended periods of time. It can be done, but the amount of time and effort it takes is probably beyond what even our fictional Ivan can spare.
Less well known are the Sally’s of this world, however news articles appear every so often about them. In August 2016, CNBC posted an article about a janitor that amassed a net worth of $8 million through good spending and investing habits. We can all learn a valuable lesson from the Sally’s about finding happiness around you and not in the stuff we buy. It doesn’t take an incredibly large income, or to be an amazing investor to retire rich. Early retirement can be achieved by anyone with a few smart choices and good money habits.