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Investing For Retirement
"You see because you have always earned money you think you will always have money...well one day we will all run out of money…the idea is to prolong that day as far away as possible" - B Feldman
Ealry Retirement Planning : How Much Do I Need To Retire
How Much Do I Need To Retire
“To make reliable decisions you must always weigh how right you think you are against how sorry you will be if you turn out to be mistaken.” – Jason Zweig
One of the most difficult financial planning questions to answer is: How much do I need to retire?
According to BlackRock’s Annual Retirement Survey, 50% of savers said that they don’t know how much they need to save to support themselves in retirement. Yet, this same 50% believe that they would save more if they knew how much they needed to reach their retirement goal.
There’s not a right or wrong answer when considering how much you need for any long-term goal, especially retirement. It’s more like a moving target.
Picking one number to shoot for can be helpful, but is probably unrealistic. As you age you can adjust your savings goals and portfolio risk to account for your changing circumstances and needs.
Yet you still need to run the numbers to get a general sense for how things will work out depending on different saving and investment performance assumptions. Using a simple online retirement calculator is a great way to perform some scenario analysis and play around with different numbers.
This can be useful up to a point. The biggest problem with these calculators is how rigid they are. Most have you fill out your return and saving assumptions that never change over the course of your career.
So you would input that you have $15,000 saved, plan to save $300/month with 30 years until your target retirement date and an assumed 7% return on your investments. Then is spits out your ending balance.
These calculators do a great job of showing you the benefits of compound interest, but don’t replicate real world scenarios very well. They don’t take into account the fact that most people save more as they age and increase their earnings power. Most investors also decrease portfolio risk as they near retirement, which can change investment return assumptions as your balance peaks in value.
REAL WORLD RETIREMENT CALCULATOR
To see how a long-term investment plan would fair using real world results, I thought it would be interesting to run some different scenarios using actual investment returns that vary from year to year along with some different asset allocation weightings and saving assumptions.
I’m still using assumptions just like the retirement calculators, but hopefully this will give you a better sense of how a long-term plan can work under actual market conditions, not a single assumed return that you come up with on your own.
Here are my portfolio parameters and assumptions:
- The S&P 500 is used for stock returns and the Barclays Aggregate Index for bonds (the 10 year treasury was used as a proxy until the inception of the BC Agg in 1976). This is because they are the most well-known benchmarks, but they also come with the most reliable long-term historical data going back a number of years.
- The assumption was that this individual would start at age 25 by stocking away $200/month ($2,400/year); Increased to $300/month ($3,600/year) at 35; Increased to $400/month ($4,800/year) at 45; And by age 55 it would be $500/month ($6,000/year). Retirement age was set at 65 for a 40 year time horizon.
- The assumed costs of the portfolio were 0.40% per year (0.20% for stock and bond index funds, respectively). That means these performance numbers are net of fees.
- Asset allocations are listed in the results and the portfolio was rebalanced annually.
SCENARIO 1: RETIRE IN 2012
The first scenario was for someone retiring in 2012. Here are the results broken out in 10 year increments:
You can see the returns were pretty solid at 8.7% per year. Forty years of saving and investing let compound interest do the bulk of the work. The ending balance was over 8 times the total amount saved. This illustrates the benefits of sound saving, asset allocation, rebalancing and risk management over the long-term.
SCENARIO 2: RETIRE DURING A CRISIS
When you time your retirement can have a large impact on your portfolio’s ending balance depending on market conditions. Retiring in 2012 meant you had a four year run of good returns to juice your ending balance.
I wanted to see how the results would be affected by retiring during a downturn in the markets. Here are the results if you would have started your career a few years earlier and retired right after the crash of 2008 (same assumptions, just a different time frame):
The results actually aren’t much different. The average returns are higher, but the below average market returns leading up to the retirement date meant that the ending balance was lower than the previous scenario. This is because the timing of your returns matters in relation to the size of your portfolio.
It did help having a 60/40 portfolio when stocks crashed in 2008. That’s why your risk profile is much different in your 60s than it was in your 20s.
You can see that most of the heavy lifting for the performance for both scenarios was done during the 1980s and 1990s. These were two of the best decades ever to be an investor. Stock valuations were low going into the 80s and bond interest rates were high.
What if those returns aren’t seen again in the future?
SENARIO 3: TAKE OUT THE 1980s & 1990s RETURNS
This scenario takes out the large returns from the 80s and 90s by choosing a retirement date of 1979. Here are the results (again, same assumptions, just different period):
Knocking out those two decades did change the results as the portfolio value is almost $300K lower. The average returns were similar, but the timing of those returns really matters as the performance in the 1970s was poor as you got closer to the retirement date.
Luckily, even when you retire you still have 20-30 years to continue to invest, even though now you will be taking distributions for living expenses. Your tolerance for risk will change but you will still have a fairly long time horizon to continue to increase the value of your investments.
You could play with different numbers and scenarios all day and things would look different depending on when you start saving, how much you save and when you decide to retire.
The point of this post is to show you how an actual long-term plan would have performed historically. Staying in the markets over very long periods can lead to amazing results.
Increasing the amount you save can also have a strong effect on your ending balance. Adding only $50/month to the amount you save in scenario 3 brings your total up to just shy of the $1.3 million balance seen in the first two scenarios. Only $600 more a year and your results are dramatically improved.
You don’t have to save over $1 million to be financially secure. That’s just how these numbers worked out when I plugged them in. What matters is your lifestyle, your spending habits, and how you want to spend your days once you are financially independent.
No one knows what the future holds for financial market returns. Looking at historical results can give you a perspective on how to view your present situation to come up with a plan for the future. You’ll be forced to make adjustments along the way, but as Warren Buffett once said:
“I’d rather be approximately right than precisely wrong.”
What if You Only Invested at Market Peaks?
Harvard Business Review (HBR Posted on February 25, 2014)
“Warren [Buffett], it strikes me that if you did nothing else you never sell. That is, if you can grit your teeth through and just disregard short-term declines in the market or even long-term declines in the market, you will come out well. I mean you just stick all your money in stocks and go home and don’t look at your portfolio you’ll do far better than if you try to trade it.” – Alan Greenspan
Bob is the world’s worst market timer.
What follows is Bob’s tale of terrible timing of his stock purchases.
Bob began his career in 1970 at age 22. He was a diligent saver and planner.
His plan was to save $2,000 a year during the 1970s and bump that amount up by $2,000 each decade until he could retire at age 65 by the end of 2013 (so $4,000/year in the 80s, $6,000/year in the 90s then $8,000/year until he retired).
He started out by saving the $2,000 a year in his bank account until he had $6,000 to invest by the end of 1972.
Bob’s problem as an investor was that he only had the courage to put his money to work in the market after a huge run up.
So all of his money went into an S&P 500 index fund at the end of 1972 (I know there were no index funds in 1972, but just go with me here…see my assumptions at the bottom of the post).
The market dropped nearly 50% in 1973-74 so Bob basically put his money in at the peak of the market right before a crash.
Yet he did have one saving grace. Once he was in the market, he never sold his fund shares. He held on for dear life because he was too nervous about being wrong on both his sell decisions too.
Remember this decision because it’s a big one.
Bob didn't feel comfortable about investing again until August of 1987 after another huge bull market. After 15 years of saving he had $46,000 to put to work. Again he put it in an S&P 500 index fund and again he invested at a market peak just before a crash.
This time the market lost more than 30% in short order right after Bob bought his index shares.
Timing wasn't on Bob’s side so he continued to keep his money invested as he did before.
After the 1987 crash Bob didn't feel right about putting his future savings back into stocks until the tech bubble really ramped up at the end of 1999. He had another $68,000 of savings to put to work. This time his purchase at the end of December in 1999 was just before a 50%+ downturn that lasted until 2002.
This buy decision left Bob with some more scars but he decided to make one more big purchase with his savings before he retired.
The final investment was made in October of 2007 when he invested $64,000 which he had been saving since 2000. He rounded out his string of horrific market timing calls by buying right before another 50%+ crash from the credit blow-up.
After the financial crisis he decided to continue to save his money in the bank (another $40,000) but kept his stock investments in the market until he retired at the end of 2013.
To recap, Bob was a terrible market timer with his only stock market purchases being made at the market peaks just before extreme losses.
Here are the purchase dates, the crashes that followed and the amount invested at each date:
Luckily, while Bob couldn't time his buys, he never sold out of the market even once. He didn't sell after the bear market of 1973-74 or the Black Monday in 1987 or the technology bust in 2000 or the financial crisis of 2007-09.
He never sold a single share.
So how did he do?
Even though he only bought at the very top of the market, Bob still ended up a millionaire with $1.1 million.
How could that be you might ask?
First of all Bob was a diligent saver and planned out his savings in advance. He never wavered on his savings goals and increased the amount he saved over time.
Second, he allowed his investments to compound through the decades by never selling out of the market over his 40+ years of investing.
He gave himself a really long runway.
He did have to endure a huge psychological toll from seeing large losses and sticking with his long-term mindset, but I like to think Bob didn't pay much attention to his portfolio statements over the years. He just continued to save and kept his head down.
Obviously, this story was for illustrative purposes and I wouldn't recommend a portfolio consisting of 100% in stocks of a single market like the S&P 500 unless you have an extremely high risk tolerance. Even then a more balanced portfolio in different global markets with a sound rebalancing policy makes much more sense – see below.
And if he would have simply dollar cost averaged into the market on an annual basis with his savings he would have ended up with much more money in the end (over $2.3 million) - here is the Gold.
But then he wouldn't be Bob, The World’s Worst Market Timer.
Lessons from Bob’s Journey:
- If you are going to make investment mistakes, make sure you are biased towards optimism and not pessimism. Long-term thinking has been rewarded in the past and unless you think the world or innovation is coming to an end it should be rewarded in the future. As Winston Churchill once said, “I am an optimist. It does not seem too much use being anything else.”
- Losses are part of the deal when investing in stocks. How you react to those losses is one of the biggest determinants of your investment performance.
- Saving more, thinking long-term and allowing compound interest to work in your favour are your biggest accelerators for building wealth. These factors have nothing to do with picking stocks or a complex investment strategy. Get these big things right and any disciplined investment strategy should do the trick.
Financial Planning For Retirement
How To Retire Early: Retirement Calculator : Pension Calculator
How to Retire Early
"I am hoping to retire early and would be interested in your thoughts on early retirement, how to plan for early retirement and how to approach saving/investments in order to meet an early retirement goal".
Harry Sit, who writes The Finance Buff blog, is someone who is actually at the point where he can retire early. He’s shared many of his personal experiences and advice on how he’s gotten to this point. Here’s what he had to say in a profile on Mint this week:
The goal isn’t necessarily to retire, but rather being able to retire. Having enough money to retire in our 40s gives us the freedom to choose what we do. It could be to work in a venture for personal and professional achievement. Or it could be freeing up time for hobbies outside work.
While early retirement may sound like a dream scenario for people in their 20s and 30s who are still trying to find their calling in life, priorities and career objectives change over time.
It’s possible you get into your 40s or 50s and realize you still have some work-related goals you’d like to accomplish. As with all financial goals, you have to keep your options open.
There’s no secret to early retirement, either. This was Harry’s advice on how to make this dream a reality:
The strategy is simple and obvious: earn a good income, save a large part of it and invest the savings well. Each of the three parts is important, and I would say a good income is the most important. Without a good income, you just don’t have as much to work with. A good income also makes it easier to save a large part of it. When you invest it well, you are then adding more to a larger sum.
Here are a few things I would add to Harry’s tips for early retirement preparation:
- Lifestyle creep is probably one of the biggest hurdles over time for building a large enough nest egg to retire early (or retire at all for that matter). It can be difficult to resist the urge to spend all of your income gains over the years as you start to make more money. One of the hardest things for people to do is be happy with what you have and keep your standards of living relatively constant over time.
- Figuring out ways to save money is the easy part; getting your priorities straight is the hard part. Unless you’re banking on a large inheritance, or earn a large salary, you’ll have to save a fairly large chunk of your earnings (I’d estimate 40-60% depending on your spending requirements). There will likely have to be sacrifices made when it comes to things like big houses and new cars.
- The average life expectancy continues to rise. You have to take this into account when considering early retirement. If you retire in your 50s, your investments could have to last you another four decades or so. Your retirement years could actually end up being longer than your working years. The planning required to make this happen is no easy task.
I think it’s great that young people are thinking about these issues because the nature of employment has changed drastically in recent decades. We no longer work for the same company for our entire career and retire with a pension and our healthcare costs taken care of.
So the only other piece of advice would be to develop enough marketable skills to be able to make yourself very employable in case something goes wrong or you realize that you’d like to continue working, just not in your current role.
The way I look at it is that having your financial affairs in order gives you the flexibility to pursue the type of work that makes you happy, keeps you driven or provides you with the most satisfaction in life. Most of the people I talk to that want to retire early hate their jobs.
So I prefer to think about this question in terms of how you can create enough flexibility for yourself so you don’t have to stay in a career field or position that makes you unhappy.
Early retirement is possible, but it takes sacrifice, hard work and the right mindset to pull it off.
Retirement Calculator : Pension Calculator
Why Plan For Your Retirement
You see because you have always earned money you think that you will always have money…this is incorrect….one day you will not be able to earn money…disability, illness, unemployment, old age…the question is …..”How much of today’s money do you want to put aside – while you are able to work – for your tomorrows…your future financial security”
Now your way….Yes you enjoy yourself now, but you are spending your future financial security, this leads to you constantly worrying over money throughout your life and a lower standard of living in your later life….you will have worked for 45 years with nothing to show for it…and nothing to look forward to…is this what you are working so hard for…is this what you are looking forward to…in your later years?
You can see there is a price to be paid either way , see you can do it your way or you can do it my way…either way there is a price to pay.
Now….My way you pay yourself first by investing in your future, out of current income, so that you can provide for your ongoing financial security and lifestyle in your later years.
You can now see there is a price to pay either way…the price tag on your financial security is less than the price of doing nothing…may way costs nothing to put in place because the worst that can happen is that when you need money in your future it’s there ….your way has a high price...because your way...when you need that money in your future it won’t be there…you can now see that the highest cost is doing nothing.
“Your only real enemy is time; it disappears in the blink of an eye, and it never gives you a second chance” So the only sensible question is “How much of today’s money do you want to put aside for your tomorrows…your future financial security – what figure did you have in mind on a monthly basis”
So the question is how much do you want to put aside for your tomorrows…your future financial security – what figure did you have in mind on a monthly basis for eample the amount you need to put aside at a growth rate of 7% over a period of between 5 and 30 years to reach a target amount.
So for example if your target amount is 500,000 USD in the next 20 years the amount you need to out aside is 1,000 USD pm.
You Control What Matters Most for Retirement
“I look to the future because that is where I’m going to spend the rest of my life.” – George Burns
Morningstar’s John Rekenthaler had an interesting article recently that discusses what matters most when saving for retirement. He goes over a hypothetical situation where a 42-year old investor is looking at the options for increasing their retirement balance in the future and what would have the biggest impact on the ending balance.
There are a number of assumptions including salary, contribution rate, company match, fees, investment returns and the timing of retirement.
Here are the eight options for what would have helped increase the ending retirement balance the most:
- Start saving earlier
- Get a higher salary
- Increase salary by 4% annually rather than 3%
- Contribution rate: Save/invest 8% annually instead of 6%
- Company match: Receive a 75% company match instead of 50%
- Cheaper plan: Switch to Vanguard and pay 0.22% in fund fees rather than 0.72%
- Better funds: Own funds that gain 8% per year before expenses (instead of the assumed 7%)
- Retire later: Wait two more years and retire at age 69, not 67
Rekenthaler then went on to run some tests on the numbers to see which of these eight options had the largest percentage increase on the ending retirement balance. Here’s what he came up with:
Luckily, the top three options are all within your control. You have the ability to start saving early (or right now), increase the amount you save and increase your time horizon if need be. The other options are not really within your control (although you could try to negotiate a higher salary).
This is great news for investors. It’s easy to blame Wall Street, politicians, taxes and the economy for the state of your finances. These are all easy scapegoats. In reality, there is nothing you can do to change any of these things, so why spend your time worrying about them when you have the ability to control what really matters.
Too often investors get bogged down in the minutiae of trying to choose the best investments, figure out the economic environment, time the market, guess the direction of interest rates and focus on the complexities of the financial markets that are completely out of their control.
This is done to the detriment of your retirement portfolio by forgetting that the simple tasks like saving early and often, increasing the amount you save each year and concentrating on your long-term investment time horizon are your best bets to financial independence.
Taking care of these simple, yet often overlooked aspects of your investments actually get you about three quarters of the way there. Once you make it a priority to save, increase your savings and think long-term, you can focus on keeping your costs low, setting the correct asset allocation that fits within your risk profile and time horizon and automating your investment plan as much as possible to avoid costly behavioural mistakes that the majority of investors succumb to on a regular basis.
After you have all of those things in place, and you are 99% of the way there, feel free to focus on the minutiae that will amount to a drop in the bucket of your overall performance. Otherwise, focus on what you can control and spend time on the things that really matter in your life.
These interesting and useful articles are courtesy of Source: A Wealth Of Common Sense
Hope this helps...
Lets talk soon
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