The pension fallacy (Part 5)

By Slow Dad - March 31, 2017

Many of the big factors in achieving financial indepedence aren't financial at all! A fat pension can conflict with the pursuit of early retirement.
Over the past few posts I’ve explored some of the myths, urban legends, and common traps for young players involving one of the most commonly used yet misunderstood financial tools... pensions.

Throughout this series I’ve received many requests to outline how I approached my own finances, both in the lead up towards Financial Independence, and afterwards. So here it is.

My path to Financial Independence

Focus on maximising income earning potential, not on maximising ego, status, or snob value

These may be generalisations, but ones that I have found to be true.

I saw through the “working hard = success” myth while I was in high school.

"working hard ≠ success"
I worked out that once a student had received the award (e.g. high school diploma, university degree, professional accreditation, etc) nobody much cared what grades they had achieved.

I looked at some of my peers who were killing themselves studying all the time, not really enjoying their time, and always stressing about achieving A grades.

I looked at some of my other peers who did the bare minimum, coasting through school without really learning the content at all.

I concluded for different reasons, both of these groups were failing to make the most of their opportunities. The hard workers had their noses buried in textbooks while life passed them by. The slackers had a lot of fun, but for the most part missed the point of why they were actually studying.

Bollocks to that

I elected to follow a different path. I made sure I learned what the courses had to teach me, without disappearing down the diminishing returns rabbit hole in pursuit of straight As.

Rather than devoting all the time this freed up to the pub and chasing pretty girls (both worthy pursuits), I chose to hold down a paying job (or two, or at one stage three… but in hindsight that was silliness).

This helped me to realise that I definitely wanted more out of life than could be afforded by working on a basic wage. That in turn kept me focussed on why I was studying, which was to gain marketable skills that would allow me to put more of a premium on my time.

This influenced the courses I studied.

I wanted to understand how and why things worked.

I wanted to understand how the events I read about in the newspaper would influence my finances, opportunities, and working prospects. So I studied Economics.

I wanted to understand how businesses kept their records, and learn to read what financial statements were actually saying… as opposed to what the glossy PR doublespeak and obfuscation attempted to have us believe they were saying. So I studied Accounting.

I understood that technology was going to play a key part in the future of just about every industry, and could see that many of the people holding “doing” jobs were at a significant risk of becoming structurally redundant. So I studied Information Technology.

Here I focused on the information management side (i.e. understanding how to get information, what to do with it, and how to analyse it) rather than the infrastructure or programming side (ultimately both “doing” jobs long term, as borne out by the subsequent move to cloud hosting and outsourcing/offshoring).

I’ll be honest, while I found all these topics interesting none of them were ever going to lead to a “dream” job the way some people talk about finding fulfilment in acting or art or music. Nor were they likely to lead to a “calling” type job the way some people view working in healthcare or teaching.

Cost benefit analysis

I looked into attending the top tier universities.

I ran the numbers, looked at the cost of living involved, the school fees, the transport costs, and so on. Many were located in big cities, which were expensive places to live.

I also looked at the employment prospects of getting into the graduate programs of many top tier employers. Many of these firms focussed their recruitment efforts on the top graduates from the top schools.

There was a large element of Darwinism involved, with big fish from numerous small ponds all diving into the same top schools. This created a hyper-competitive environment, and allowed employers to be very selective about which graduates they decided to hire.

To me this appeared to be a risky proposition. Everyone incurred the high cost of attending the top schools, yet the majority of graduates didn't land the sought after jobs. The rest of them would be competing with the students from the second tier universities, who had not incurred the same financial penalties to end up at the same place.

Be careful what you wish for

Then I looked at the advancement trajectories those graduates in the top firms progressed down. Most of them washed out within two or three years. I spoke to a few people who had ventured down this road, and they all hated it. They viewed it as serving time in the trenches, paying their dues until magically at some stage down further down the road they would suddenly be able to slow down and start being appreciated.

I also spoke to some people involved with running graduate programmes. They viewed each new intake as interchangeable cannon fodder, just fuel for the machine. Very few were expected to go the distance, in fact the whole system depended on most people escaping before the funnel point on the organisational promotion ladder.

The graduate recruitment system doesn't make sense

So I looked outside of it. There was no reason a graduate could only apply for “graduate” branded jobs. 74 character building rejections later I landed a professional job.

It paid more than the graduate program jobs.

The hours were better.

It wasn’t ridiculously competitive.

Ironically 18 months later I received a several offers to move across into those same top tier firms, at a level two or three rungs higher up the pecking order than those who had entered via the formal graduate program route at the same time I had graduated. I chose not to accept those opportunities.

Savings without a target is just apathy

Once I started earning I adopted the “Richest Man in Babylon” approach to paying myself first. I set aside 15% of my pre-tax income.

I had already established an emergency fund while working my student jobs. I viewed any savings, above that emergency fund level, that were held in a bank account as incurring a huge opportunity cost.

Each time I accumulated sufficient funds to purchase a reasonable sized marketable parcel of shares I would invest. This was back in the days when brokerage was expensive, and I hadn’t learned about index trackers.

The power of leverage

Once I had accumulated what I felt was a sufficiently large asset base to act as a buffer, I switched my attentions to real estate investment.

In the personal finance world there are a lot of perspectives on landlords, property investing, and property as an asset class. One thing none of them really disputes is the fact that the judicious use of leverage, via a mortgage or a line of credit for example, can be a very powerful magnifier of wealth.

Using £20,000 to purchase shares leaves you owning a £20,000 portfolio. If it goes up in value 5% then you have an asset worth £21,000.

Using £20,000 to purchase leveraged property may leave you owning a heavily mortgaged property worth £400,000. If it goes up in value 5% then you have an asset worth £40,000 (after you’ve paid off the mortgage).

Now obviously there are costs associated with using borrowed funds, and market values can go down as well as up.

However providing a person is sensible and carefully does their research then property is a pretty well documented means of generating wealth.

One of the main criteria I used for selecting the properties I invested in was they had to be self funding, and located in areas that were set to experience stronger capital growth rates than the prevailing market.

Each time I accumulated sufficient equity in my portfolio and I could identify another good opportunity I would purchase it. However I never went beyond the point where I was uncomfortable with my overall debt level.

Meanwhile I accumulated stocks...

Buying a property was hardly an everyday occurrence. In between purchases I increased my share holdings. Initially this was all via in direct investments, with mixed results.

I liked the logic of Warren Buffett's "defensive moat" idea, where great companies possess a solid business model that had a built-in barrier to entry for close competitors.

This led me to purchasing Google for their ad-sense revenue stream. Apple for their iTunes business. Amazon initially for their logistics and inventory management, but subsequently for their Amazon Web Services division. CSL for their blood plasma business. Berkshire Hathaway for their very successful insurance divisions.

It also led me to some real dogs, like ABC Childcare and Enron, both of which should have performed well, except it turned out their books were cooked.

... but there had to be an easier way

As time passed, and my life got busier, I was finding it harder to find companies I could get excited about. This caused me to start looking for a less targeted, but more consistently performing approach to investing.

Eventually I stumbled onto the wonderful world of globally diversified low cost index trackers. Their performance has been steady rather than spectacular, as can be expected given their nature.

Surprisingly the biggest issue I've encountered with tracker funds is boredom, and resisting the urge to tinker with portfolio allocation weightings.

My brokerage account asset allocation is roughly 12.5% direct share holdings / 72.% index trackers / 15% bonds.

The breakdown of my tracker portfolio composition is roughly equivalent to global market capitalisation weightings.

For the moment most of my investment activities are focussed here, although I am always on the lookout for attractively priced property opportunities located in areas set to experience strong capital growth.

Earn money for someone else, or earn money for yourself

I’ve never been particularly good at following instructions, and must admit I don’t relish being told what to do.

One thing that struck me very early on in my working career was that my colleagues were forever worrying about asking for time off. Holidays? Kids off school sick? Family wedding/graduation/whatever?

This seemed silly to me.

A job was just a job, there were always going to be others.

The main reason many of us were working was to earning the money required to pay for things like family holidays. It seemed to me that most people had the focus wrong, it was work getting in the way of their lives, rather than living their lives getting in the way of work.

I realised that most people didn’t receive a direct benefit from “working hard”. The owners of the firm employing them did however. That didn’t seem quite right to me.

I shudder every time I hear about bloggers espousing the need to "hustle" and preaching for people to work harder. This is bollocks, people need to work smarter and focus on those things that will make the biggest difference towards achieving their goals.

Having seen several close friends and relatives be made redundant from workplaces they had worked at for many years I had long dispensed with the illusion that permanent employment was inherently more stable that the alternatives.

So I struck out on my own.

Make money for others or make money for yourself?

I continued to perform much the same roles as before, only now I charged clients according to what I felt my time and experience were worth.

When I felt I was ready for a “promotion” I would target more senior roles and increase what I charged for my time accordingly. This seemed a much more sensible approach than sitting back and allowing some line manager to decide when I was ready to climb a rung up the greasy pole.

So what?

So you noticed this post hasn't really mentioned pensions at all, huh?

Well I’m not yet at pension eligibility age, quite a long way from it in fact.

Yet I am financially independent today, without needing to wait until then to access my pile of wealth. Funny that.

I do mention education, shares, property and business ownership as being the tools I deployed to become financially independent.

Next time I will talk a bit more about why that is.

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  1. Thanks for sharing, Slow Dad - I did wonder how you got to FI at such a young age.