Bryce Leung and his wife Kristy Shen, who retired in their 30s, with their son.Maxwell Giffen/Supplied
Over the past two years, Canadians have received a brutal lesson in economics.
We watched as the price of groceries, gas, and other necessities climbed 15 per cent from 2021 to today. Interest rates also rose, as the central bank tried to choke off inflation by raising the cost of borrowing, sideswiping homeowners who saw their monthly mortgage payments go up.
One group of people who have been curiously spared from the pain of soaring inflation, is the FIRE movement.
FIRE stands for Financial Independence, Retire Early. In a nutshell, this group of money nerds believes that by optimizing your expenses and investing your earnings to generate dividends and interest, it’s possible to retire from your job decades before the traditional retirement age of 65.
We both retired from our corporate jobs in our 30s using this approach. Now, a decade later, our FIRE portfolio is still paying our bills so we can dedicate our time to raising our young son.
However, this article isn’t about early retirement. It’s about whether FIRE can withstand the effects of soaring inflation.
And what we’ve seen is that members of this movement weren’t hurt by this combination of high inflation and high interest rates; in fact, many of us emerged from this period even wealthier than before. That’s because some of the principles of the FIRE movement are also effective in countering inflation.
Here are three lessons we’ve learned.
FIRE lesson #1: Avoid debt like the plague
One of the key lessons of the FIRE movement is that debt directly impedes your ability to retire. Retiring early requires the dividends and interest from your investments to match your living expenses, and if you are making debt payments, it’s nearly impossible to do this.
That’s why the first step in pursuing FIRE is to eliminate debt.
This contrasts with the traditional advice that mortgages are “good debt” and therefore acceptable. Many Canadians take on massive mortgages to pay for increasingly unaffordable real estate.
There are dangers to this approach, as many people have discovered. Buying the biggest house you can afford may seem like good advice, until your mortgage payment balloons and you find yourself struggling to afford groceries.
The FIRE movement’s deep suspicion of debt shielded us from this.
FIRE lesson #2: Flexibility is key
Traditional financial advice states that buying is better than renting because buying provides you with stability, while renting doesn’t. For the FIRE movement, this lack of stability is a pro, not a con.
FIRE advocates believe that renting is superior to buying in major metropolitan cities because rent tends to be less expensive, and it gives people the flexibility to move to a cheaper city, or even a cheaper country. Moving is a major project for homeowners, but for renters, it’s as simple as packing up and handing back the keys.
Renting also enables our family of three to only upgrade our space when our child is older or if they end up with a sibling. If we had bought, we’d likely be paying for extra space we don’t need.
And while rent can still go up in times of high inflation, the more predictable amount you’re paying (especially in places with rent control) versus the potentially fluctuating mortgage costs homeowners face means you have more money to invest in assets that grow with inflation.
FIRE lesson #3: Invest in inflation-proof assets
Most Canadians have the majority of their net worth tied up in their primary residence, but this strategy doesn’t work for early retirement. FIRE relies on generating income from our investments, and primary residences don’t generate income.
Even if your house were to increase in value, you can only access that money when you sell, so the FIRE movement tends to avoid real estate in favour of financial instruments, such as exchange-traded funds, or ETFs. And certain income-generating ETFs benefit from both high inflation and rising interest rates.
For example, real return bonds pay an interest rate tied to inflation, so when inflation goes up, they pay more. Rising interest rates also supercharge investments like floating rate bonds and some preferred shares, which increase the interest they pay when rates rise. The same forces that hurt homeowners help investors of these funds.
If most of your net worth is in your house that is not paid off, high inflation and rising interest rates hurt you, and you can’t do much about it, since your money is trapped in a single illiquid asset.
The past few years have been financially traumatic for many of us, with pandemic-fuelled inflation and the rapid rise of interest rates exposing how vulnerable many Canadian households are.
The FIRE movement offers a solution. What will you do with this knowledge?
Kristy Shen and Bryce Leung retired in their 30s and are authors of the bestselling book Quit Like a Millionaire.