Retirement age is closely linked to life expectancy, with the increasing life expectancy in many countries, retirement age is also expected to be raised. While many EU member countries’ retirement age is at about 65, many are looking at raising it to 68. There is a plan for Ireland to increase the retirement age by 2028. Take a look at the graph below and find out how old will you be, when you can officially retire.

When we live longer, then we have to work longer, only if you are dependent on your income to support your life. When we are still young and energetic, we can do so much and enjoy life, but we need to put our time into work in preparation for retirement. Because by then, we would need a pension to support our lives. Ironically, then we have all the time in the world to enjoy life but with less physical capability. It doesn’t have to be an either-or choice. In this article, I want to explore the alternatives to ‘work till retiring’. First, we need to understand what is the Trinity Study, a.k.a 4% rule.

The Trinity Study

Trinity Study comes from a paper published by 3 finance professors at Trinity University. The core theory is that when a person has sufficient savings in assets, and 4% of it would cover the yearly expense, then he or she will have enough money to live before passes away by withdrawing 4% from the total asset adjusted to inflation in the subsequent yearly. The worst thing that could happen when you retire is that you outlive your savings. According to the 4% rule, one can plan retirement better. But it does not mean you have to stick to the retirement age for planning, if you want to retire early, this rule also applies.

Simply put, if your annual expense is $48,000 ($4,000 per month). Then you need $48,000/0.04%=$1,200,000 in the total asset to achieve living on your savings/investments while the money will not run out till you pass away. You can calculate your yearly expenses and times 25, then that is the total asset value you need to have to retire right away. In this example: $48,000×25=$1,200,000

Yearly total expenses X 25 = target value

You need to note that, the total assets here to support the withdrawals lie in a portfolio mixed with bonds and stocks, or bonds and ETFs as many prefer. ETFs are much more diversified than individual stocks and in the long term, it outperforms 99% of actively managed mutual funds. An article from Financial Times <99% of actively managed US equity funds underperform> made a comparison of mutual funds to the S&P 500 and S&P Global 1200. There are more researches and studies on how ETFs or index funds outperform mutual funds. With a portfolio mixed of bonds and index funds/ETFs, a study has shown the success rate of retiring on withdrawal given different investment mix and withdrawal rates.

The lower your withdrawal rate is, the more likely you will have a sustainable living using this method. Vanguard also suggests a rate between 3% to 5% is reasonable. Here we look at using 4%, if you want to be more conservative, you can use 3.75% or even lower.

Let’s backtest this theory with a $4,000 monthly expense and a total asset value of $1,200,000. If you withdraw $4,000 per month and your portfolio return is 6%, how long does it take when your money runs out.

Why I use 6%? Because if someone just invests money in Vanguard total stock market, since inception 2001, the annualised return is 6.8%. Deduct some taxes and so on, let’s assume 6% and see what is the result.

Not only that your money will not run out, but it will grow over the years. That is because your withdrawal rate is 4%, and the assumed average return is 6%. The money will grow at a 2% rate. Of course, you can also use a lower expected return to be more conservative. Even if someone invests in the vanguard total world ETF with a broad range of stocks. The historical annualized return is 5.76%.

If your average return equals to your withdrawal rate of 4%. Then the result is:

You are using the profits made from your investment to sustain your living. And your total asset value does not change.

So with this, you may now have understood the logic behind retire early, is to accumulate enough assets in investment with a return that can sustain your withdrawal rate. There three key numbers here: Expenses, Savings rate, and Investment Return. Each factor will affect when you can retire.

1. Expenses

Many of us have the thinking that when we receive a bonus or salary increase, we adjust our spending to our earnings. This is so-called the lifestyle inflation. Have you bought a brand new car because you receive an awesome bonus? Have you bought a bigger home because you get a better paying job? Or have you spent more on luxury vacations because you have an increased salary? In any case, most of us are victims of lifestyle inflation. No rules are saying that we have to increase our spending because we increased our earning. But unconsciously, we do so. And this largely impacts on how you retire early. On the other hand, there are expenses which we can reduce but we ignore them. For example, a cheaper brokerage account, a bank offers lower fees, a cheaper mobile plan, or even reduce duplicated insurance coverage. These all add up to your total expense. If we go back to the earlier example, with a reduced expense of $3,500 per month, the total needed asset value will be $1,050,000, a 12.5% reduction from $1.2 million. If you managed to reduce your monthly expenses to $3,000 per month by lowering your housing expenses, getting rid of the high car leasing payment, and so on, then the number is $900,000. 25% reduction than before. The lower the number is, the shorter it will take you to reach and retire early.

If we transfer the reduced expenses to your savings then into an investment, it will then speed up your way to retirement.

2. Savings rate

In relation to your expenses, it is your savings rate. The fewer expenses you have, the more savings you have. The table below shows how your savings rate affects years till retirement based on certain assumptions. The variables affecting the results are annual savings rate, annual investment return, years you have to work before retirement, and annual withdrawal rate.

If your monthly expenses are $4000 ($48,000 yearly) and make $5,000 per month. Your yearly savings is $12,000. Then you retire after 26 years.

After you cut the expenses to $3000 per month if you still make $5000 per month, and now your savings is $2000 per month ($24,000 per year) instead of $1000. Then you retire after 17.5 years.

The savings rate is important in deciding when you can retire. If you want to see how each scenario plays out, here is a more in-depth article from Financial180. In short, the savings rate is a key factor determining when you can retire (but not an absolute factor). You can increase the savings rates by reduce expenses and increase income.

3. Investment Return

As you can see, naturally the higher your investment return is, the shorter it takes you to retire. But how to achieve a higher return while limiting the risks. The common practice among the FIRE movement community (Financial Independent and Retire Early) is to invest in index funds and bonds. There are so many studies and statistics showing that a widely diversified ETF/Index can outperform 99% of mutual funds in the long term. One single S&P500 ETF consists of 500 companies, a total market ETF consists of more than 2000 companies, and if you want a broader diversification with the total world ETF, it consists of stories from emergy markets and developed markets all over the world and multiple sectors. Mixed with bonds it will give you a smoother portfolio performance because it is less volatile than stocks. Especially when you are a wealth preservation stage, you don’t want to risk losing too much asset value. Here is a book I recommend that how an average investor can invest with three funds portfolios: The Bogleheads’ Guide to the Three-Fund Portfolio: How a Simple Portfolio of Three Total Market Index Funds Outperforms Most Investors with Less Risk.

You need to educate yourself first to start understanding that, you can actually do it yourself. Investment is not that complicated unless you go with a financial advisor, but at the same time, how many of them can produce a good return for you which is better than a well-diversified ETF, or just the S&P500?

There are many investments you need to consider with your savings money, your pension money, your voluntary pension money, and money for the mortgage payment. You can optimize each by learning how to use them to your advantage. I have also written articles on <How to Create Wealth with Your Pillar 3a>, <How to Create Wealth with Your Pillar 3b>, and <Buying a Property: Direct or Indirect Amortisation?> for people who work in Switzerland.

Conclusion

You see, it is totally possible to retire early if you do the right things with your money. If you want to retire early and have enough financial means to support your life, you should start with optimizing your expenses and increase your saving. Then you can look at how to increase your earnings and construct a long term investment portfolio, which should grow your money over the years till the moment you reach the retirement age goal.