The FIRE Movement (Financial Independence, Retire Early)

The Financial Independence, Retire Early (FIRE) movement may seem like a pipe dream for many, contradicting the trend of ever-increasing state pension ages. This trend is made worse by the fact that low interest rates and a growing life expectancy have pushed up the cost of retirement. However, I look to investigate why FIRE may actually work and delve into some of the underlying mechanisms.

Originally coined in the book Your Money or Your Life back in 1992, the FIRE movement encompasses those that embrace a frugal lifestyle, invest aggressively, and tightly control their finances. As a result, those that partake in the FIRE movement often benefit from an earlier retirement – sometimes as early as in their 30s. These individuals then live off small withdrawals from their portfolios.

A typical FIRE strategy will require a retirement pot that can cover 25-35 years of annual living expenses. There are many ways to do this, but the three predominant strategies are:

1.      Fat FIRE – Continue to live a normal lifestyle, but limit unnecessary expenditure to save a considerable amount. This may seem the most appealing, but it’s worth noting that it may take substantially longer to build up the required retirement pot.

2.      Lean FIRE – Use frugal living to keep a tight control on finances and save the maximum amount possible. Typical cost saving areas include travel and accommodation.

3.      Barista FIRE – Use part-time work in retirement to supplement income. This strategy requires the smallest savings pot, but it relies on the fact that you will be able to work in retirement.

Using these techniques, people that live by the FIRE mentality can save anywhere from 50-70% of their post-tax income. These savings will then be invested, accruing even more wealth along the way. If the portfolio performs well and only small withdrawals are made, then it is possible to live off of the growth of the investments, as demonstrated by the following example.

A typical diversified investment portfolio should return approximately 8% per year. Therefore, with £1 million invested, it is possible to withdraw £80k a year whilst maintaining the value of the portfolio. However, £25k will need to be put back in to combat the average annual inflation rate of 2.5%. Other effects that have to be considered are market volatility (1%), negative dollar cost averaging during the drawdown period (the opposite of dollar cost averaging, where you need to sell more shares when prices are low to maintain cash-flow - 1%), and a safety buffer (0.5%). After subtracting all of these factors, you are left with a drawdown percentage of 3%, or £30k. It is worth noting, however, that this is the drawdown percentage required to maintain the fundamental value of the portfolio, and that it is possible to withdraw more.

In the end, the FIRE movement is all about balance. Even those fortunate enough to retire at 30 will have to make substantial sacrifices when compared to what their life would be like if they were to continue working. For most, FIRE is better suited as a mindset encompassing the trade-off between time and things. For example, is that new sports car worth an extra 6 months of work?

If so, then FIRE away.