Disclaimer: The content below is for informational purposes only, you should not construe any such information or other material as legal, tax, investment, financial, or other advice. The content below is provided for educational purposes only, and not indicative of future performance. You should do your own research and consult a regulated financial advisor in matters of personal investment.
Why have a retirement fund?
The idea of a retirement fund is to have some kind of income when you are no longer able to work or have decided to retire. The larger the fund the more you can spend during your retirement.
How do I get one?
Traditionally people will invest in a pension fund either privately or through their employer. In either case, regular payments are made into the fund and often matched by the government (as a tax break) or employer to rapidly increase the amount available. Pension funds are typically conservative with risk and heavily regulated to ensure that they can survive decades of investment.
On retirement the pension fund can be used to purchase an asset of some kind (often an annuity) which then pays out a regular amount per month for some duration. Usually the person receiving this payout will die before it stops and any remaining amount is kept by the owner of the asset (the annuity company).
Decades! Can I speed it up?
Some people choose to treat a pension as a form of backup plan to their primary investment strategy. Their main approach is to live well within their income so that they can comfortably invest 60% of their monthly salary into a high yield index tracker (usually around 7% annual return). Starting this approach in your early twenties when you have fewer responsibilities gives faster results but requires significant financial discipline.
For example, with an annual interest rate of 7% re-invested over the course of 10 years the interest generated on the investment becomes sufficient to be able to match the 40% of income that you are living off. Consequently, the investor can rapidly reach a state of financial independence and is able to retire in their thirties.
For more details take a look at the Shockingly Simple Math Behind Early Retirement from Mr Money Mustache which also provides much advice about how to restructure your lifestyle so that 60% savings is achievable.
Where can I find an index tracker offering 7%?
Unfortunately, it can be very difficult to find index tracker funds that offer high interest in the current economic climate. In 2020, across Europe, investment funds are offering dismal rates, and some are actually moving into negative values. This means it actually costs money to have it invested in some asset classes (such as bonds).
What other investments can I work with?
For some the novel approach offered by decentralised finance (DeFi) can be an appropriate choice.
It should be noted that the world of DeFi is nowhere near as regulated as traditional finance which is both a blessing and a curse. On the one hand DeFi gives the 1.7 billion people worldwide (see page 16 of report) who don’t have a bank account the ability to access the same financial tools as those that do. On the other, it is very easy for unscrupulous businesses to dupe naive investors into losing significant amounts of money with little to no legal recourse.
What is decentralised finance?
In 2009 a computer scientist calling himself Satoshi Nakamoto solved a significant problem in distributed computing. This breakthrough allowed for the removal of trusted third parties in accounting systems. As a result a new field of computing has arisen which is able to automate many aspects of our digital lives.
It is now possible for anyone with access to a smartphone to pay money internationally, maintain a savings account, get a loan, trade commodities and much more without requiring a bank, broker or any institution. This is particularly useful for anyone who would have difficulty getting a bank account (the under-banked) or who travels between countries for extended periods (digital nomads). It also means that there are new areas of growth and opportunities for interest yielding investment.
Most DeFi work is being conducted on the Ethereum trustless computing platform which is an open source project overseen by the Ethereum Foundation. One way to think of Ethereum is as a “printing press for open finance applications”.
What financial instruments are available?
As of early 2020, you can do all basic financial operations within the Ethereum ecosystem, and several more advanced ones. For example:
- Account management for keeping track of digital tokens within wallets,
- Exchanges for trading national currencies (USD, EUR etc) and digital tokens (ETH, BTC etc) with professional grade order matching systems,
- Specialised tokens called “stablecoins” to remove volatility and exchange rate risk over time,
- Money markets for lending and borrowing funds,
- Synthetic markets for trading shares without owning them directly,
- Derivatives markets for more advanced trading instruments,
- Insurance markets to assist in risk reduction
All of these tools are available on Ethereum right now, and with the introduction of Ethereum 2 (a significant upgrade in terms of capability and scaling) many more are on their way. With Ethereum 2 it is possible for investors to both secure the network and earn interest using companies such as Attestant (Disclosure: The author is a director of Attestant Ltd).
For the purposes of this article we shall concentrate on index trackers, but it should be noted that stablecoins (such as DAI and SAI from MakerDAO) are able to act as high interest savings accounts. Investors could use a dollar cost averaging approach to build up a personal fund.
In traditional finance an index tracker simulates the behaviour of a popular index such as the S&P 500 or FTSE100 which represent the top companies in the USA and UK respectively. As companies meet the requirements of the index they will naturally push others out. The role of the index tracker is to automatically detect this change, sell shares in the pushed out companies and buy shares in the new entrant. Some index trackers will favour shares in the top performers within the overall group allowing for some extra nuance in the rebalancing process.
In the DeFi world an index tracker is simply a managed group of various digital tokens, often called a tokenset.
How do I get started?
To work with the Ethereum network you will need to buy digital tokens called Ether (ETH). Different jurisdictions around the world have different rules on how this can be done. The following example will provide information for people in the US and Europe.
In the world of DeFi it is normally you, and you alone, who are responsible for access to your funds. This means that if you lose access to your digital tokens then nobody will be able to recover them for you. You should practice proper security practices such as strong passwords and hardware wallets if you start to invest significant sums of money.
Step 1 - Install MetaMask browser plugin
You will need a browser that can support plugins such as Firefox (recommended) or Chrome (less private). Follow the MetaMask installation guide to get started. Remember to choose a strong password since it is your responsibility to keep access to your digital tokens secure.
Step 2 - Purchase some ETH
This can be the most difficult step for people new to DeFi. Different jurisdictions require different levels of regulation in order to purchase digital tokens.
Within the US, the MetaMask wallet provides integration with Wyre which allows purchase of tokens using your smartphone and ApplePay or GooglePay. Just click on the MetaMask deposit button and follow the instructions.
In Europe, you may want to purchase your ETH using an exchange such as Bitstamp. Simply go through their registration process and should be able to make a purchase of ETH from a bank card or transfer.
In terms of the amount for this example the equivalent of 20 USD will be sufficient.
Step 3 - Transfer your ETH to MetaMask
Remember if you don’t control your ETH then you don’t own them. Consequently, you should always move your funds to somewhere under your control. Ideally this should be a hardware wallet, but for this example MetaMask is sufficient.
The general process for moving ETH from one wallet to another is based on a DeFi concept known as addresses (e.g.
0x7df9a875a174b3bc565e6424a0050ebc1b2d1d82) which uniquely identify wallet destinations. Sometimes you will need to copy/paste these addresses so be careful to always check the first and last 4 characters. It doesn’t matter if the letters are upper or lower case.
MetaMask provides a detailed tutorial here. On an exchange you’d withdraw your ETH funds to the deposit address provided by MetaMask.
Step 4 - Set up a Tokenset account
Our overall objective is to buy into a DeFi index tracker with automatic rebalancing so that the ongoing investment process requires very little effort.
One concept in Ethereum that you will often see is an ERC20 token. You can think of this as a “share” in a virtual investment fund. You can trade them on some exchanges and you can use them to wrap and aggregate other tokens. The Set is an ERC20 token that aggregates a collection of other tokens (such as ETH, BTC, XMR and so on) with 100% collateralization. This means that only you can access the underlying digital asset and you can take advantage of the automation features of Set to handle rebalancing and so on.
Step 5 - Purchase a Set
After carefully reading their FAQ (particularly their security audits) you’ll be ready to purchase a Set of some kind. While this article cannot give financial advice, a general principle of investment is to keep management fees to a minimum while trying to maximise annual returns. The “Robo Sets” tab provides a list of possible investment strategies that could be easily treated as an index tracker.
Let’s examine the ETH 20 Day Simple Moving Average Crossover Set. This uses a basic strategy based on a simple moving average (SMA) of the price of ETH over the last 20 days. If the price of ETH drops sufficiently to cross the SMA (which always lags behind) then all the ETH is sold into USDC (a stablecoin pegged to the value of USD) until the price recovers and re-crosses the SMA going upwards once more. At that point the USDC is sold and ETH purchased to take advantage of the upward trend.
In this manner the fund takes advantage of bull runs and minimises losses during bear runs.
This is an example of the bare minimum required to constitute an index tracker, and it may be worth including a few more tokens so that a falling price in ETH is offset by a rising price in BTC with appropriate rebalancing to always chase the “rising star” with an eye to running to the safety of a stablecoin if all tokens are falling.
Clearly much of the information provided here is for more advanced investors, but it shows that there is an alternative to the traditional financial approach to building a retirement fund.
It may be that as DeFi becomes more accessible to people all over the world that new and exciting investment opportunities will arise and be reflected in the price of the various ERC20 tokens. Having an early stake in such technology might be a good move for the future - but, as always, understand that past performance does not guarantee future performance.