At last count, this author figures there are 1,302,482 early retirement blogs out there. You’d think, in all those blogs, there’d be a detailed account of how to get to the position the author is in. If there is, I’ll be damned if I can find it. Most early retirement blogs focus too much on why it’ll be awesome to retire early, and not enough on the heavy lifting required to get there. This series will help. 

As you probably remember from part 1 of the series, you need a ridiculously high savings rate to be able to achieve some sort of early financial independence. You either need to make a crap-ton of money, live cheaply, or ideally some sort of combination of the two. Or, you know, having your rich Grandma kick the bucket. Poor Grandma.

Anyway, today we’re looking at investing. And specifically, where you should invest those savings. Alas, I can’t tell you a stock that’s guaranteed to go up like a million percent, that’ll make all your non-sexual dreams come true. If I knew which stocks were going to go up, I sure as hell wouldn’t share it with you chumps. We’re not that close of pals.

Anyway, doing this via the stock market is hard. We’ve all heard of the success stories – like people buying Apple shares back in 2002 – but these stories are the exception, not the norm. Sure, it might happen, but don’t count on it. Instead, I’ll offer a couple of generic tips for investing for financial independence by using stocks.

Focus on big dividends – I’m hardly a dividend growth investor. Hell, I wrote a whole post on why people should avoid the whole concept. Saying that though, you shouldn’t avoid dividends altogether, especially as an early retiree. They’re taxed efficiently and can offer reasonably predictable cash flow, assuming you do your homework beforehand.

For example, I bought Roger’s Sugar back in 2006, back when the stock was $3.75 per share and yielded 10%. Since then the dividend has stayed pretty consistent (even after the stock converted from an income trust to a corporation) and the stock is up some 80%. The total return over my holding period is over 20% per year.

If you manage to pick stocks that have large dividends that have safe payout ratios, you’ll manage to do well even if the stock stagnates. In today’s low interest rate environment it’s tougher to find these stocks, so you might have to lower your expectations from a 10% yield to maybe a 6-7% yield. Lowering your expectations is okay. Just ask any girl who’s ever considered going out with me.

Another option is to buy preferred shares/bonds at values less than their par value. The same strategies apply as above – you’ll need to do your research and find companies that are likely to maintain their payout, weathering the storm until the company can return to former glory. That way you can enjoy a dividend and the potential for a capital gain.

This stock market investing is all fine and good, but I’m missing the one thing that’ll make this whole process of financial independence a whole lot easier. It’s risky, but what’s life without a little risk? Yes kids, I’m talking about leverage.

But Nelson, debt is a bad word. Everyone says it’s evil. Who are you to argue with everyone?

SILENCE.

Look, there is no doubt borrowing to buy an investment adds risk to it. Buying a house for 10% down means you’ve borrowed 10x your original investment. It’s why, for the most part, stock markets will only let you borrow 1.5x your original investment. (In reality the rules are a little more confusing than that) Stock markets learned their lessons after the market crash back in 1929 wiped out all sorts of banks.

But, when done right, leverage can be the most effective way to achieve early financial independence.

Let’s take a closer look at doing this for real. As long as you maintain the ability to make the mortgage payments, you’ll eventually own that house outright, and be able to pocket the entire rent cheque. If you do that over and over again, you can accelerate this whole process. And if it all falls to pieces? Hell, it’s not your money.

This is kind of difficult to do up here in Canada, since real estate has enjoyed a fantastic run over the last decade. Sorry Canadian readers, but you’ll just have to move to the land of increased murders, crappy health care and Texans to take advantage of this. Get rich and come back to Canada. Or somewhere warmer.

I’ve wrote about this before, back when I told you to buy assets instead of going to college. If you want the details of just how easy it is to get ahead buying rental houses by using leverage, just go back and read away. Instead, I’ll just sum everything up for you by saying that, after 5 years, you could own 2 paid-off rental properties that spin off $750 per month in rent. (After expenses, assuming $40k purchase prices)

Or say you don’t want to become a landlord. Okay, no problem. You can still borrow against real estate, it’ll just have to be your principle residence. This, at least in Canada, is referred to the Smith Maneuver, which has to be the best name for anything, ever. Those Smith guys are great, don’t you think?

The Smith Maneuver is pretty much the only way for a regular person (who doesn’t want to buy rental real estate) to deduct their mortgage interest. This is good if you’re already sitting on a house with lots of equity in it, but isn’t so effective if you’re just starting out. You can accomplish pretty much the same thing by just funneling all your money into investments.

Let’s wrap things up. If you’re looking to beat the market, that’ll be hard. If you’re looking to leverage and use other people’s money to accelerate things, that’s a little more manageable. If you’re looking to get big returns, you gotta take some risks.

 

Tell everyone, yo!