What is financial independence?

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One of my 2018 goals was to be financially independent by 2032. I also started associating a number with it to track my progress. I have had few comments asking me what it means and how I came up with this number. I will try to answer those questions as a part of this post.

Back when I started this blog I got exposed to FIRE (Financial Independence and Retire Early). Everyone was driving towards this goal. Recently, I came across this new term FIRO (Financial Independent and Retire Optional) and I am starting to think FIRO is where I want to be. Why? Because I want to be realistic! Given my age and my late start I don’t think I can FIRE by 2032. However, I have a very good chance of achieving FIRO.

What is my FIRO portfolio size? It’s based of our current monthly expenses i.e. 30x our monthly expenses. I don’t have any statistics to back this up. Nevertheless, it is good starting point.

To compute the projected balance in 2032, I take my current balance and compound it by a ROI %. In performing this computation I assume no further cash additions to my portfolio. Let’s say I have $10,000.00 in my portfolio today. By 2032, assuming a 7% ROI I would have $25,481.84 in my portfolio. This is a very conservative approach. My computation always assumes the worst case scenario and I like to work off that. Every additional dollar invested, dividend increase and dividend reinvestment contributes positively to my progress.

My ROI assumptions are very conservative too. Unlike state pensions I tend to be very conservative in ROI assumptions. I read an article by John Bogle (Founder of Vanguard) in which he talks about the expected average return from the stock market going forward. His assessment was that the on an average the returns would yield + 2%. S&P 500 (VOO) has a yield of around 1.87%. ). So, effective ROI going forward would be 3.87%. Assuming a lower ROI places additional importance to contributions (i.e. contribute early and more). I would rather assume a lower ROI and overshoot then assuming a higher ROI and undershoot.

The above table shows the importance of contribution. With increase in ROI the importance of contributions decrease and vice-versa. Put it differently, you could contribute a lot less and still achieve your goal if you assume a relatively high ROI. This is pretty much what my state does for its pension contribution (allows them to spend freely today).

I have a mix of ETFs in my portfolio. My effective ROI (estimated) based on current allocation comes out to be 4.25%. Here is a concrete example putting it all together. Let’s say my goal is to have $1,000,000.00 by 2032. My portfolio as of today has $10,000 in it. Assuming 4.25% ROI my portfolio would be valued at $17,777.50 in 2032. That is 1.78% of my goal. Hopefully, this clarifies what my FIRO target is and what my % progress to FI means.

When I started this dividend blog my goal was to live of dividends. I am starting to find out it is unlikely. If I want to have $50,000.0 in dividends by 2032, I need to have a portfolio of $1,689,189.19 by 2032! Assuming I invest exclusively in Vanguard High Dividend Yield ETF (Yield: 2.96%). VYM is one of the highest yielding equity ETF in Vanguard. That comes out to be $85,000 per year in new investments for the next 14 years! There are three favorable events which can get me closer (1) dividend increases from stocks, (2) buying stocks at discount during correction and (3) higher returns from the stock market. First two events would increase my yield and in the process increase my income. (3) Would increase my portfolio value and I can start selling some of my gains during retirement. Unfortunately, (3) contradicts (1) & (2). This is primarily the reason I switched from FIRE to FIRO.