By now I guess you’ve heard of the FIRE movement – you might even know someone who follows this “extreme” form of retirement savings.
An acronym for âfinancial independence, early retirement,â FIRE advocates are looking to retire earlier than the traditional age of 65 – and I mean manner earlier. Some are even in their thirties!
They do this by accumulating a huge pool of money over a period of several years and then making regular withdrawals (some applying the imperfect 4% withdrawal rule) to support themselves. Some continue to work during their “retirement”; others point entirely.
I was thinking of the folks at FIRE this week and wondering how they would fare if they tapped into the wealth (and income) generating power of closed end funds (CEFs), which offer monster returns, sometimes at the lowest cost. north of 10%.
Members of our CEF insider service know what CEFs can do for their retirement income. These funds not only give us huge returns, but also the price gains that we can only get on the stock market, allowing us to pay our bills without having to save big cash (and often without having to sell a single stock for. money during our golden years).
Too bad CEFs, despite their growing popularity, are still off the radar for most people. But not for us! Just for fun, let’s imagine some early retirement scenarios using these high income funds (and I’ll share a quick 3-CEF portfolio that could get you there).
Step 1: Save
The first step on this path is, of course, savings.
Let’s say you have a middle class or upper middle class job, live sparingly, and save about 45% of your pre-tax income. Here’s what that would look like, with your income and expenses adjusted for inflation, over seven years. I’m also assuming an annualized return of 9% (more on how I arrived at that figure below):
Savings go from $ 0 to $ 365,000 in 7 years
Also keep in mind that in the above assumption, we are not doing anything to minimize our tax burden (i.e. no use of IRAs, 401ks, or other tax-efficient accounts) . It may speed up the timeline, but let’s leave that aside, just to be on the safe side.
Now, depending on how much you are willing or able to save, your journey to that $ 365,000 could be shorter or longer. Let’s adjust our numbers above to account for a few different scenarios, ranging from just 10% of pre-tax income saved up to 80%:
As you can see, even for those who only want to save 10% of their pre-tax income, savings of $ 365,000 can be achieved in about 16 years. That’s not bad, especially since conventional “wisdom” tells you that it takes 40 years or more to retire. But the real key to all of this is how you invest your savings, which is the step we’ll look at next.
Step 2: Invest
Of course, to get the return we need to grow our nest egg sufficiently, we need to be on the stock market, and ideally through closed-end funds (CEF), as we will see in the next step.
As I said in step 1, I assumed an annualized return of 9%, just over half of what the S&P 500, illustrated above by the performance of the SPDR S&P 500 ETF Trust (SPY)
An investor who has achieved similar returns to the NASDAQ would become financially independent in just over five years with a savings rate of 45%, saving more than a quarter of the time needed to retire early. Like I said, I wanted to be conservative!
In reality, the chances of getting returns above 9% over a few years of investing are high, provided you don’t have the bad luck of finding yourself stuck selling on the stock exchange in the middle of a massive sell-off, like in 2008 / ’09, for example. This is where the third step is crucial: getting a passive income stream.
Step 3: Earn passive income with CEFs
This is where CEFs come in, because they give us the income we need to pay our bills, even in the event of a collapse, while keeping us exposed to growth that we can only achieve in stocks.
For additional protection, we can also use CEFs to diversify our holdings, as there are CEFs that invest in S&P 500 stocks, as well as specific sectors of the market, such as real estate investment trusts (REITs) and real estate investment trusts (REITs). technology stocks, as well as investments such as corporate bonds, convertible bonds, preferred stocks and municipal bonds.
In other words, having a good mix of CEF allows us to get the three things a pre-retiree needs:
- High income, to keep our bills paid and support us during a crisis,
- Price gains, to grow our portfolio before retirement and keep it growing when we exit, and …
- Diversification, to help us protect ourselves from a stock market crash.
As CEF insider members know it is quite possible to build such a portfolio with the FEC. Here’s a setup that would offer the above three âmust-havesâ to anyone who’s quickly seeking financial independence.
Take this hypothetical portfolio: the Eaton Vance Limited Time Income Fund (EVV), the Cohen & Steers Infrastructure Fund (UTF) and the Kayne Anderson Midstream Energy Fund (KMF).
With this setup, you have corporate bonds (from EVV), utilities (via UTF) and energy companies (with KMF). Just these three CEFs give you enough income to cover virtually all (96%, to be exact) of your basic expenses (based on the costs listed in year 7 of the assumption above), and you get these assets at a price lower than net asset value (NAV), to boot.
Why do you want a discount? Because when investors get greedy and bid in the markets, funds that trade at big discounts will start to see those discounts fade away and turn into premiums, giving them an extra boost. We then sell at a profit and turn to other more overlooked funds that trade with discounts and repeat.
Michael Foster is the Senior Research Analyst for Contrary perspectives. For more great income ideas, click here for our latest report “Indestructible Income: 5 windfall funds with secure 7.3% dividends.“
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