Sunday, November 27, 2011

Is There a Point to Being Frugal and Trying to Save?

A commenter left this question on my last post, and I thought it was worth answering separately:

Can I ask you a question, in regards to some long term investments?

I recently did some calculations and the results are very much frustrating, to be brutally honest.
Have a look yourself - they are all published.

If you invest $ 40, 000 a year over 35 years, at modest inflation rate of 2% and administration fee of 1-2% you need stock market to perform at 4% just to preserve value of your money and higher to gain anything.

This means that you are only preserving money you are investing at a very high risk. So it is just plain wisdom - is there a point to be frugal and try to save, if you ended up loosing money?

Feeding financial industry and no living your life in full?

I definitely understand the concern about feeding the financial industry, which seems more and more rigged in favor of the rich and well-connected. And yes, investing has risk. You could look at the scenario this person describes and say "well, historically, the stock market has performed better than 4% on average during many periods," and you could also observe that it has performed much worse during other periods.

But here's my analysis:
If you save and invest $40,000 a year over 35 years and the market totally tanks beyond all expectations and inflation skyrockets and you trust a Bernie Madoff, you could end up with ZERO.

But if you DON'T save and invest $40,000 a year over 35 years and instead spend all that money on "living your life in full," you will DEFINITELY end up with ZERO.

Of course, "ZERO" is your cash balance and doesn't factor in comfort and pleasure and memories. As always, I advocate a balanced approach between using some of your money to enhance your life now, and saving some to enhance it later. If your definition of living your life in full depends on spending every penny you earn, maybe you should stop and think about all the rewarding, memorable things in life that are free. Those are things you'll still cherish 35 years later, more than all the stuff you spent money on.

And I know keeping that balance is never as simple as it sounds-- I've spent money on traveling, and 35 years from now I think I'll be glad I have those memories and not be wishing I hadn't spent the money. I'd hate to be 80 years old and have regrets about not having spent a few thousand dollars to go somewhere I'd always wanted to go. But I'd have even more regrets if I was 80 years old and homeless because I'd blown all my money when I was young. None of us can avoid making choices that we might regret later, but when it comes to saving money, I think it's pretty clear which way you should hedge your bets.


Maggie@SquarePennies said...

Totally agree. These days if you just don't lose a bunch of money you feel good. With possible inflation you have even less chance to preserve capital. I am pretty risk averse, but then I'm retired & that's appropriate for my age. I just want to have enough money saved to live a decent life with a few adventures!

Financial Independence said...

I am totally flattered having such reply. Many thanks for your kind attention!

Anonymous said...

Nice post. Keep them coming!

Heather | Thirty Three Mom said...

Hey I just found your blog! It looks like you are a little further along in your financial journey than I am - but I'll get there!

home budget app said...

Great blog! It is definitely hard to put the money away and plan for the future, but definitely worth the investment if done with wisdom, some guideance and patience.

Tamala said...

Has anyone seen this? It looks like a pretty sweet way of making some quick cash:

Money Saving Apps said...

It is quite difficult that don't think about the money, stay away from it and plan for future!!

Anonymous said...

No other postings since November 27th...kind of disappointed????? Seems you must be in the honeymoon phase of a relationship.