How to achieve and maintain financial independence

How to achieve and maintain financial independence

If you listen to a few famous success stories, you might get the idea that the best way to achieve financial independence is to start a tech company out of your garage. Who doesn’t like a good rags-to-riches story? Markets have been strong and as a result more companies have gone public in 2021 than in recent years. As is usually the case, many of these Initial Public Offerings (IPOs) were underwhelming. But the price of the stock of a few did well and those companies garnered a lot of media attention.

Such tales are part of what makes America such a wonderful country. You really can get rich by starting a company. But before you cash in your 401(k) to start a business or load up on the stock of one of these media darlings, you must realize a couple of things.

…the reason the stories of meteoric wealth creation make the news is because they are highly unusual. For every company that succeeds, there are many more that fail and such failures are often catastrophic to stockholders.

First, the reason the stories of meteoric wealth creation make the news is because they are highly unusual. For every company that succeeds, there are many more that fail and such failures are often catastrophic to stockholders.

Second, you simply don’t have to take on so much risk to become financially independent. Fact is there are more millionaires today than ever before and the vast majority did not get to that level of wealth through some big “score”, by playing the markets, or some other speculation. They built wealth over time by doing simple, almost clichéd things.

Financial independence is available to most anyone willing to engage in the behaviors which pay off. If you save diligently and exercise enough patience and discipline to stick to a well-designed financial plan which addresses all aspects of your finances, you could amass enough money so that working becomes truly optional.

So which behaviors pay off?

In The Next Millionaire Next Door: Enduring Strategies for Building Wealth, Dr. Sarah Stanley Fallaw and her late father Dr. Thomas Stanley survey more than 600 millionaires in America. They detail six behaviors, which she calls “wealth factors,” that are related to net worth potential, regardless of age or income. They are:

• Frugality – a commitment to living within one’s means and saving
• Responsibility – believing financial security comes from one’s behavior, not luck
• Planning – setting realistic goals and establishing strategies to achieve them
• Focus – completing tasks despite distraction
• Social indifference – resisting pressure to buy the latest thing or to “keep up with the Joneses”
• Confidence – taking the reins of household leadership and believing you can achieve financial independence

These factors are not surprising. It makes perfect sense that if you set a realistic goal, understand how to get there, implement the means of achieving it with discipline, do not procrastinate and stay focused on what is important to you, your odds of success will be better even if some bad luck comes your way.

The last factor of confidence deserves some discussion. Confidence, as described in the book, is essential to success. You must believe you can do what is needed to become financially independent. You must also be able to keep the many competing interests in your household and outside forces beyond your control from causing you to make emotionally driven decisions which could knock you off course instead of making evidence-based and plan-based decisions.

However, too much confidence or misplaced confidence can lead to destructive behaviors or even disaster. Academic studies are very clear that overconfidence adversely affects many aspects of personal finance. Studies warning against overconfidence are plenty but here are a few recent examples from 2020:

In their paper, “Financial knowledge overconfidence and early withdrawals from retirement accounts” (2020) Sunwoo Tessa Lee and Sherman D. Hanna of Ohio State University determined those with “…financial knowledge overconfidence were more likely to take early withdrawals (from retirement plans).”

“Millennials who are overconfident about their financial knowledge are more likely to engage in costly (debt) management behaviors,” according to Sunwoo Tessa Lee and Kyoung Tae Kim from the University of Alabama in “Propensity to Plan, Financial Knowledge, Overconfidence, and Credit Card Management Behaviors of Millennials” (2020).

Finally, from “Investor confidence: Are you your own worst enemy?” (2020) by Colleen Tokar Asaad of Baldwin Wallace University: “overconfident individuals are more likely to be overoptimistic about their individual performance …; less likely to seek the advice of an adviser; more likely to trade on margin; more likely to trade commodities, futures, and options; … Overconfidence may help explain why investor returns are consistently lower than investment returns.”

Overconfidence encourages people to speculate and sometimes with devastating consequences. But as Asaad and others have pointed out for decades, overconfident investors trade too much and to their detriment. Instead of being wiped out in a large speculation gone bad, they get an inferior result a little at a time while thinking they are doing well.

The good news about all these studies is that overconfidence can be tamed, and positive wealth factors can be employed by just about anyone.

Keeping proper confidence involves not mistaking the noise of the day’s news for important information requiring action. Prudent, long-term investors don’t follow the news for trading ideas.

Keeping proper confidence involves not mistaking the noise of the day’s news for important information requiring action. Prudent, long-term investors don’t follow the news for trading ideas. They always remember they cannot buy unless someone is willing to sell, and they cannot sell unless someone is willing to buy. There is always – ALWAYS – someone who thinks whatever trade you are placing is an inferior move.

Fallaw and Stanley approach the behaviors they describe as wealth creation tools, which they are. But they are also wealth preservation tools. Maintaining financial independence comes from continuing to live within one’s means. Successful retirees don’t rely on luck to stay secure. Their goals are different, but they still have realistic objectives and implement strategies to achieve those goals with help from truly independent experts. They don’t chase shiny objects and they don’t get so full of themselves that they tie their self-worth to their net worth.

In short, they have a plan that is followed, monitored, and adjusted as things change.

2022 is right around the corner along with New Year’s resolutions. Gyms are notoriously more crowded in January with those who resolve to get into better shape. The crowd dissipates by spring because the work is hard and must be done independently. Achieving the goal of creating an excellent, custom-tailored financial plan is a far more likely goal than getting into better shape because much of the work can be delegated.

We’ve lost count of the number of times new clients have told us, “I wish we had found you when we were younger,” or “I’m sure I paid Uncle Sam way too much over the years.”

We are always happy to talk confidentially with any family member or friend of our clients about financial planning. If we are not a good fit for them, we will do our best to help them find a better match. No one will ever have more time than they do right now to put their finances in good order and develop the mindset and behaviors that pay off.