Hello again from the end of the world!
Ha, just kidding. It is not the end of the world. Don’t get me wrong, this is a very, very serious health crisis the world is dealing with, and everyone should practice contrary to good hygiene, hand washing and appropriate social distance Those idiots who deliberately cough around to cough up old people because they think it’s funny. Idiots.
I am always amazed at how quickly the world can turn to a single cent. Just a few months ago, we sat on record stock market gains and discussed how much we should increase our equity allocation. Now the streets of every major city are practically empty while the global economy comes to a standstill. What a ride that was.
However, this is not a news blog, but a financial blog. And if I could use two words to describe the mood in the financial / business world right now, that would be “bitter terror”.
I get it. The world’s stock markets are in free fall, trillions of dollars in valuations have been wiped out within weeks, and no one knows where the bottom is. Dow futures regularly hit stop limits, and we’ve seen breathtaking, record-breaking movements in both directions for several days. In short, it is beginning to feel like 2008/2009.
So are we panicking? Not at all.
Do not get me wrong. We are not tackling the dangers of the coronavirus and are taking all steps recommended by the WHO and the Canadian government to ensure that we do not get sick (and more importantly, we do not pass the disease to everyone else), but from a perspective we will be fine with personal finances.
Remember that we not only invest on the stock exchange, but also expand our portfolio. The real reason why we invest is to secure our cash flow.
After all, cash is what we use to buy groceries, pay rent and go out, and enjoy life. ETF prices are just numbers on a screen. However, if you don’t have a good way to convert it into cash, you are not yet ready to retire.
So while we talk a lot about financial issues and building a balanced, diversified ETF portfolio to help you retire in this blog, it is just as important how you convert this portfolio into cash and how you can do it in times of safe Crisis.
The three-bucket strategy
The focus is on our three-bucket strategy. We have explained all the internal functions of this system in our book End up like a millionaireBut to summarize briefly: You basically organize your retirement money in three groups or buckets.
On the left is your retirement savings portfolio full of affordable cross-index ETFs. At the bottom right you have your expenses for the current year. This is the amount of money you reserve for your rent, food, entertainment, etc. for the coming year. And finally, you have a separate savings account for your cash cushion. This is a certain amount of cash that you keep to help improve with market downturns like the one we are facing.
Remember that your portfolio returns money in two ways: portfolio return (or the yield shield as we like to call it) and capital gains. In good times (like last year), at the beginning of the year, fill your bucket with the expenses for the current year by reaping the return on your portfolio and selling some ETF units that have increased in value.
In bad times, fill your bucket with the expenses for the current year by reaping the return on your portfolio and also using a year of cash cushion to make up the difference.
And when the good times come back, use the additional capital gains from your portfolio to replenish your cash cushion so you’re ready for the next economic downturn.
Some have criticized our strategy for being overly cautious because it keeps a certain amount of money away from the markets (though not nearly as much as you might think), but BOY, we’re glad we have this system in place at the moment. Last year, when the markets were scorching hot, I replenished our Cash Cushion account to our 3 year goal. Even now, while our investment portfolio is going crazy, our 2020 expenditures are already done, since we harvested our earnings shield in January and our replenished cash cushion gives us a total of another 3 years of cash flow is already taken into account by 4 years of living expenses.
Oh, and that doesn’t include blog / book income, which is nice, but we don’t make a living to keep our early retirement experiment as pure and relevant as possible for all of you.
We have done this on our investment side to ensure that temporary market slumps do not affect us. However, it is just as important how we spend our money from year to year. I’m talking about lifestyle inflation, of course.
Don’t inflate spending in good times
I get it. It’s super easy to look at a hot year when your portfolio has risen in the six-figure range and think, “You know, I could really use a new Tesla now …”
That would be a mistake. Keep in mind that the 4% rule that FIRE is based on assumes that you will only increase your cost of living annually at a rate that does not exceed inflation. If you continue to increase your cost of living, you may increase the likelihood of a portfolio failure or the order of return risk, as the financial nerds call it.
In this case FIRECracker receives all recognition for the success we have achieved with it. If you look back at our annual spending summaries, you may find that somehow it is never about $ 40,000. It’s all because of her.
She is the one who takes all our receipts every night and inserts them into her magic tables. She is the one who finds all the offers for accommodation when we travel around the world with our two backpacks. And she is the one who notices immediately when our expenses increase and finds out how we can reduce them again.
Because of their (and our geographically arbitrary lifestyle), not only have we not been able to inflate our lifestyle in the past 5 years of retirement, but we have somehow completely bypassed inflation. As a result, our portfolio grew faster than originally anticipated during the equity market ramp-up. This is great because in the event of an inevitable crash, you’ll need every extra penny to get through the downturn.
Be militant with your money in bad times
And finally, when the inevitable crash happens, it’s even more important to manage your expenses even better.
It’s actually easier than I thought. One of the very, very, very few advantages of this coronavirus crisis is that it is surprisingly difficult to spend money. We enjoy eating out, but it gets difficult when every restaurant is closed. And as FIRECracker stated in the last article, the cost of AirBnbs in downtown areas has decreased in value. We can now pick up AirBnbs in downtown Toronto for less than a long-term rental!
As a result, our expenses have decreased. If the worst-case scenarios forecast by the media come true and we remain blocked for most of the year, we expect to be below our budget by $ 5,000 to $ 10,000. This has a profound impact on our cash position as we can actually RISE our cash pillow at this level of spending instead of spending it. The longer this crisis lasts, the more secure our cash flow will be.
Money makes the world go round
There is a saying in the financial world that cash is king in a crisis. Well, we are in a crisis and have definitely found this statement to be correct. All financial wizards in the world don’t matter if your fridge is empty. That is why it is so important to have both a cash flow strategy and an investment strategy, because in times like these, cash really is king.
Stay safe, everyone. And no coughing with old people!
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