What are you talking about now, Bjarni ?
The fundamental elements for achieving financial independence - or personal wealth more generally - may vary slightly, even within the so called ‘Financial Independence Retire Early [FIRE] Movement’. However, income (1), spending (2) and investment (3) are the most universally recognized levers. I call these three the ‘wealth trifecta’. You might prefer ‘holy trinity’ or ‘hat-trick’, ‘triple-crown’, ‘hot triplets’ 👀 (joke - calm down) or whatever other trio you prefer! The name, of course, doesn’t matter. What matters is the principle that simply by attending to all three parts of the wealth trifecta your personal wealth grows, while neglecting any single one guarantees ‘wealthlessness’.
Just tell us the three elements of the Trifecta, man.
Chill. Here they are:
1.(Increasing) INCOME:
This element focuses on increasing your earnings to accelerate your path to financial independence. It involves finding ways to boost your income through various means, such as advancing in your career, pursuing higher-paying job opportunities, negotiating for higher salaries, seeking promotions, acquiring new skills or certifications to enhance your marketability, or even starting a side-hustle or taking on freelance work. By maximizing your income, you have more financial resources available to allocate towards savings and investments.
By maximizing your income, you have more financial resources available to allocate towards savings and investments.
You may already have an income you are satisfied with, and find it easier or more motivating to apply greater leverage to the other elements of the trifecta to build your wealth.
2.(Reducing) SPENDING:
The second element emphasizes the importance of reducing your expenses to live below your means. It involves analysing your spending habits, identifying unnecessary or discretionary expenses, and finding ways to cut back on non-essential items.
Concrete actions could be downsizing your living arrangements, cooking meals at home instead of dining out frequently, finding cost-effective ways to enjoy hobbies and entertainment, using public transportation, biking instead of owning a car, and being mindful of your consumption patterns.
By reducing your expenses, you free up (save) more of your income which would otherwise be spent carelessly, accelerating your progress towards financial independence.
By reducing your expenses, you free up (save) more of your income which might otherwise be spent carelessly, accelerating your progress towards financial independence.
3.INVESTING (over time):
The third element centres around making investment decisions to grow your wealth over time. ‘Financial independence’ proponents advocate for a long-term investing mindset, understanding that wealth accumulation is a gradual process. It involves creating an investment portfolio that aligns with your risk tolerance and financial goals.
Investing is the matchstick, while good income and spending patterns are the fuel and oxygen without which FIRE is not possible.
This may include investing in stocks, bonds, index funds, real estate, or other investment vehicles based on your individual circumstances, age and risk tolerance. By taking a disciplined and long-term approach to investing, you aim to harness the power of compounding returns and benefit from the growth of your investments over the years.
Investing is the catalyst for the first two elements to morph into wealth (it is the matchstick to the fuel and the oxygen). Without investing, you simply can never become wealthy. Your savings will shrink in value over time due to the never-ending scourge of inflation. When looking at the long term impact on your money of saving vs. investing, you will understand that investing is not risky, but rather not investing is risky!
The options for the good boys and girls who don’t spend their whole salary are therefore:
🙂 Investing = ‘wealth-go-up’.*
OR
😞 Savings (cash) = ‘wealth-go-down’.**Not investing hardly seems like a real option, does it??
Check out the charts below. On the left you can see the impact of inflation on the EURO. Don’t forget this is an in-built feature of our financial system. On the right you can see the performance of the STOXX600 (a basket of European stocks) over a similar period. The trends are clear. Cash down, market up. Cash is trash (caveat: cash is great for financial privacy and buying cool stuff, but financial privacy as a human/European right is a discussion for another day)!
What if I don’t give a shit about one of the elements? Wait, does that question even make sense?
If you entirely neglect any one of the elements you simply cannot build wealth. While this might be obvious when you imagine the consequences of not having an income or spending your entire bank balance each month, it equally applies to not investing.
Let’s get specific though.
The only way to completely neglect income (1) is to have no income at all. Without income, your spending is by definition higher than your income, you cannot accumulate money or contribute to investments, and therefore, you cannot build wealth.
Now, imagine that you neglect the spending (2) element of the trifecta. This would mean that you spend most or all of what you earn, without allocating to saving/investing . Or even worse, maybe you spend more than you earn (not uncommon!!).
Finally, neglecting investing (3) leaves your savings - even if substantial - unproductive and at the mercy of inflationary drag. Even if you are smashing it with high income and low spending, without investing your saved capital it will never deliver you to financial independence or any other level of substantial wealth, and you will ALWAYS rely on income to sustain you.
Get it, yet?? You gotta do all three or it doesn’t work!!
This is a wake up up call!
The wealth trifecta is a ‘principles level’ guide on building wealth. It represents a high-level logical truth about finance that is, unfortunately, not taught in schools. Most of us WANT to do better with money, but don’t really understand personal finance at its most basic. The wealth trifecta is an excellent mental model of the fundamental building blocks of success in personal finance.
Most of us have an income. Many of us spend as much or more than we earn. Few of us invest. Most of us are excluding the very possibility that we will one day be wealthy!
The reality is the following:
Most of us have an income. Many of us spend as much or more than we earn. Few of us invest. Most of us are excluding the very possibility that we will one day be wealthy!
To change this isn’t easy, but it’s worth it. Understanding the Trifecta is just a starting point. For each part of the trifecta, you must learn and incrementally increase knowledge, build conviction, and take action.
If you do, over time you will shed your white belt and maybe even graduate to a black belt of wealth accumulation and financial freedom. Now, go get that freedom, my little financial ninja!
Reference notes about this article:
*Even low risk investments (e.g. index funds) provide high chance of capital growth over time.
**It is of course necessary to have a cash balance to handle your expenses, and it is also recommended to have an emergency fund/buffer in cash or cash equivalents.
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