For those of you who follow along with my net worth updates and read my recently posted 2020 spending breakdown, you may have noticed something missing: I haven’t said much about our savings or investment strategy.
In this post, I will revisit the investment hierarchy I laid out nearly three years ago, and update you on how we’ve been filling our investment buckets these days.
I’ll also talk about allocation of our investments, with some revelations that may be shocking to the Simple Pathers and the Bogleheads.
The Brewing FIRE Investing Hierarchy
Let’s start with a bit of history. Back in 2018, I established my investment hierarchy, which is a simple method for deciding how to distribute investments, and in what order.
Make sure to check out my original post on the Investing Hierarchy for a description of each investment vehicle and to better understand why we prioritize our investments as listed.
Amazingly, I still stand by the hierarchy as it was originally presented. The basis for this investment sequence was tax efficiency, and thus the reasons for investing in this order are still valid today.
To quickly rehash the underlying theory: I used a metric I call “Instant Return” which I defined as the gain you immediately realize through either tax savings, debt reduction, or an investing incentive such as a company match. The value of the Instant Return is most often based on reduction in tax burden, which in turn is related to your effective marginal tax rate (EMTR).
Here’s a quick table for the expected Instant Return for each of the investment vehicles listed.
Now you know the ‘why’ of our investment sequence, let’s see how we did in 2020 and what we project to save in 2021.
2020 Investment Summary
|Investment Account||2020 Contribution||Comment|
|Emergency Fund||16,800||Built up buffer for house sale|
|Debt > 6%||–||N/A|
|HSA||–||Not available to Mrs. BF|
|FSA||7,750||Not invested – tax deduction only|
|401k / 403b||39,000||Maxed out x2|
|ESPP||1,620||Proceeds from discount|
|401k – After Tax||5,040||Mega Backdoor Roth conversion|
|After Tax / Brokerage||41,119|
|Total Invested Assets||133,784|
First off, wow. It’s amazing that we were able to invest more than $130,000 last year. Obviously, this is mostly possible because we both have good paying jobs. At the same time, our Adjusted Gross Income for 2020 is going to be in the ballpark of $150,000. What does that mean? We’re maximizing the impact of tax-efficient investments, and squeezing every available dime out of the system.
Emergency Fund: we already had about $25,000 stashed away at the beginning of 2020, but we built up our fund further because we knew we might be selling our house and moving. The extra cash cushion definitely came in handy, as we drew down most of it by the end of the year.
Employee Stock Purchase Plan: as I’ve been saying for years, the ESPP is part of your compensation. I’ve been pocketing fistfuls of money from my employer for years using this tool, and you should be doing the same.
401k After-Tax: my employer FINALLY gave us the option to make after-tax 401k investments at the end of the year. I promptly contributed about $5,000, and immediately converted to a Roth investment via the Mega Backdoor Roth conversion.
After Tax / Brokerage: our after tax investments were divided between index investing, a couple individual stocks, a robo-advisor and crypto. I know, I know- I’ll explain in the Allocation section.
529 Investments: I never talk about our 529 accounts in my net worth updates. Since this money is earmarked for our kids’ higher education, I don’t even consider it my own. We’re hoping that some combination of 529 funds and cash will cover their cost of education. Honestly, though, it’s impossible to predict what college will cost in 15 years, so we’re not going to over-invest into these buckets. Check out this site for more information about the potential tax benefits of 529 accounts.
2021 Investment Strategy (Forecasted)
Assuming I stay employed for the entirety of 2021, these are our forecasted investments. That’s a huge IF, as I’m really not sure whether I’m going to keep working or not. I’ve got my finger on the Early Retirement trigger, and I’m not afraid to pull it if my job gets stupid.
|Investment Account||2021 Contribution||Comment|
|Debt > 6%||–|
|HSA||7,200||Back on my employer’s plan|
|FSA||5,000||Dependent care deduction|
|401k / 403b||39,000|
|ESPP||800||1/2 year participation?|
|Total Invested Assets||133,000|
If we stay in our current jobs for all of 2021, we should be able to save approximately the same amount in 2021 as we did last year. But, as I said, there’s a lot of uncertainty about this.
Since I’m not sure about my employment future, I’m planning to max out my 401k by March. If I stay employed beyond Q1, I will probably look into making more after-tax 401k contributions. I will also consider starting up ESPP investing again; I stopped late last year because I didn’t want to tie my money up in company stock if I was leaving.
If we actually reach our full investment quota in 2021, and the stock market doesn’t take a dump in any significant way, then I’m really going to consider Coast FIRE at the end of this year. Stay tuned.
As I frequently mention on this blog, I had a revelation in early 2019 that caused me to sell all my individual stocks and start investing in index funds only. This has served me quite well, as I stopped tinkering with positions and making poor investment decisions.
When I wrote about investing during the brief market crash in March 2020 (part I and part II), I talked about having a bond allocation of 10-15%. In those posts, I mentioned how I shifted some money to bonds when the 10-year yield was close to 3% back in 2018. Well, once it dropped back below 1% last year, I didn’t see much reason to keep money in bonds, so I sold out of those positions in 2020.
So what does my current allocation look like?
Asset Class Breakdown
The vast majority of our invested money (90%) is in index funds or ETFs, almost all of which are total market, S&P index, or similar (SCHB, VTI, FXAIX etc…). The variation in fund selection was mainly due to availability and $0 fee options, back when there were still transaction fees.
The “8.5%” allocation to cash is not actually cash; it’s mostly Bitcoin.
I know, it’s crazy. In case you want an explanation, I’ll provide one. First, I read this post by Lyn Alden, who’s one of my favorite macro-themed investors to read. The fact that she reversed her previous stance and got bullish on BTC helped sway my position.
At the same time, I was reading Optionality (and The Deep Dish) by Richard Meadows (one of my favorite 2020 books), and he spends some time describing a barbell investing strategy. Check out this article for a good primer on barbell investing, which amounts to having mostly ‘safe’ investments combined with a small percentage of ‘lottery ticket’ type investments, with potentially big payoffs.
Long story short, I decided to buy some crypto. I initially planned to invest 1-2% of our net worth, but then Bitcoin’s price exploded, and our ~1.5% allocation is now more than 5%. How’s that for good timing!
The other cause of deviation from 100% Total Stock Market investments is our choice to start using a robo-advisor.
Why a Robo-advisor?
We decided to move the majority of our after-tax investments to Wealthfront in late 2020. I plan to write a dedicated post on this decision, but here are the main reasons:
- The Feel of “Optimizing” Without Actually Tinkering
- Tax Loss Harvesting
I’ve said, time and time again, that I’m not good at leaving investments alone. I’m always trying to over-optimize, and re-balance (or reinvent my investment strategy) way too often. By handing our funds over to a robo-advisor, I’m essentially taking the day-to-day transactions out of my own hands. Yes, buying VTSAX (or VTI) and then closing the computer will probably do just as well. But since I can’t leave shit alone, this is the better way for us.
The other reason to switch to Wealthfront is Tax Loss Harvesting. Again, I will talk more about this in another post, but the bottom line is this: Wealthfront should easily cover it’s modest management fee (0.25%) by selectively selling and re-buying funds and harvesting losses. This will help us out on our taxes, and (potentially) offset future gains as we sell assets to fund our early retirement.
Breakdown by Account Type
This is what our net worth breakdown looks like, grouped by type of account.
The majority of our money is in pre-tax retirement accounts, which is the hardest to access without penalty. We plan to roll over these funds via Roth conversion in the coming years, so they may be accessed penalty-free before we turn 59 1/2.
Our Roth account balances are substantially less than our pre-tax accounts, which is an area I’d like to improve. Roth contributions can be withdrawn tax and penalty free, so this could be a potential avenue of early-retirement drawdown income. We need to focus on getting more money in these accounts in the coming years, either via Roth 401k contributions, after-tax 401k conversions, or rollovers from pre-tax accounts.
Our taxable investments have grown significantly in the past 6 months. Half of this growth came from reinvesting proceeds from our house sale, and the other half from Bitcoin heading to the moon. Our taxable account will be our workhorse during early retirement, so we’d like to keep filling that bucket.
Approximately $100,000 of our cash allocation is being set aside for the purchase of a house down here in Virginia. In other words, this will be mostly converted into home equity. Hopefully we make a better decision than I have in the past.
So What’s Our Coast FIRE Plan?
The short answer: we don’t have one yet!
That’s not to say I haven’t thought about it. A lot. There are just too many moving parts at this point. Once we get a clearer picture of Mrs. BF’s projected earnings in the coming years, and I figure out whether I’m going to earn anything post-RE, then we can start to model the retirement glide-path. All in due time…
So that just about sums up what we’ve been doing with our money over the past couple years. How does your strategy compare? Have you caught the crypto bug? Let me know in the comments.
Disclaimer! I am not a tax professional, investment advisor, financial planner, or anything other than a guy on the internet. Please direct your questions to a true professional before taking my advice.