A large part of the financial services industry is built around investing and investment returns. But for young lawyers, it's much easier to increase your savings rate than your investment returns — and saving more can actually beat a better investing strategy. Even a small increase in your savings rate can have a huge impact on your financial future.
Investing converts income that took time and personal labor into ownership of an asset. Ideally we'd only own assets that go up quickly, but that's nearly impossible. So if we can't control the future returns of our assets, what can we control? How much we own.
Ownership = Freedom
To have financial freedom, you need enough money to pay for your lifestyle and the time to enjoy it. A salary requires your time and labor; ownership of some assets requires neither. For a portfolio to grow, one of two things must happen: you buy more assets, or your assets increase in value.
Returns matter more to those who do not save
Historically, financial advising centered on investing the assets of the wealthy and retirees. Commission-based models — and later the Assets Under Management (AUM) fee model — made it unattractive to serve people with low net worth, since a small percentage of a small asset base doesn't sustain a business. The result is an industry focused on investment returns rather than savings rate.
But are investment returns more important to a young lawyer than a high savings rate? Probably not.
What is a savings rate? How much of your after-tax income is saved rather than spent. Earn $100,000 after taxes, save $10,000 to a 401(k) plus $5,000 to a bank account, and your savings rate is 15%.
How often you save matters
Consider earning $100,000 after taxes with a 10% savings rate over 30 years at a hypothetical 8% return. Contributing $10,000 once at the start of each year beats bi-weekly contributions in year one ($10,800 vs $10,426). But over 30 years the result flips — bi-weekly contributions of ~$385 end up $28,210 ahead, roughly 2% more value.
How much you save matters
The common advice to "contribute enough to get the full employer match" is rarely bad, but it's insufficient for retirement. Young lawyers should aim to save 10%-15% of pay including the match.
- Increasing a 3% savings rate by just 1% results in roughly 33% more money in retirement, all else equal.
- Choosing a 5% rate instead of the recommended 15% leaves you with roughly 66% less.
An easy way to increase your rate: raise it whenever you get a raise. Get a 4% raise, bump your savings rate 2%. You still take home more, and you save more. A win-win.
A higher savings rate can beat a better investment return
Comparing 3% vs 5% savings over 30 years: even if the 3% saver earned 7.5% annually while the 5% saver earned only 5%, the 3% saver still ends up behind. A 2.5% better return didn't overcome a 2% higher savings rate.
Comparing 10% vs 15%: if the 15% saver earns 7% annually, the 10% saver would need roughly a 9% return just to break even.
At the extreme — 3% vs 15% savings — even if the 3% saver earned 14% (double the 15% saver's 7%), they would still underperform.
Generally, the greater the gap in savings rates, the greater the investment return difference needed to match it.
Avoid lifestyle creep
Lifestyle creep is when expenses rise alongside income, until you can't leave your job or absorb a layoff. Some lifestyle creep is good — you worked hard for a lawyer's salary and shouldn't live like you're still in law school. The distinction is living a life you can afford without sacrificing future financial freedom.
The best defense is to pay yourself first: set up an automatic transfer on payday that moves a set percentage into an investment account before you can spend it.
Focus on your savings rate, not your investment returns
Even professionals struggle to beat the market — over 20 years, only about 14% of domestic stock funds did. It's difficult to consistently earn higher returns than the market. It's much easier to increase your own savings rate.
So which one would you choose to improve?
Have questions of your own?
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