74% of Americans have never calculated their monthly retirement income needs, according to Voya Financial, April 1, 2015. From the same source we can see that 51% of retirees have never tried to determine if their current savings will be enough to last through retirement and 39% assume what they do have will not last 20 years. Yogi Berra put things in their correct order when he said, “If you don’t know where you are going, you might end up someplace else.” Brian Tracy is noted for this quote:
Goals in writing are dreams with deadlines.
Do you have a specific retirement goal that includes the year you intend to make work optional? The title here may be of help to you to see things more clearly. Read this and you will have a target. You determine what exactly is your target. For our YouTube version, please watch:
Here's the problemI first became insurance licensed in 1978 and securities licensed in 1979, so please accept my apology for my profession. In my opinion, the securities industry is notorious for recommending products and investment vehicles to you, regardless of price, without first taking the time to help you see exactly what target you are trying to hit. It’s no different than attempting target practice outside after loading up on bows and arrows during a lunar eclipse. In the dark you can’t possibly hit a target you cannot see. Many of us read Stephen Covey’s book The Seven habits of Highly Effective People where we were encouraged to begin with the end in mind. So let’s turn on the lights in the room or go outside in the daylight to see what target you are attempting to hit.
Too many of us spend more time planning our vacations than we do planning our financial future. The average 401(k) account balance year end 2013 is $18,433, according to the Employee Benefit Research Institute, as reported on NBC News this month. From the same source we see that nearly 40% of employees have less than $10,000. In 2013 at Vanguard, for 55-64 year olds the average balance was 76,381. So it is no surprise that the number one financial concern in America is retirement, according to a Gallup poll. Your parents and grandparents were provided pensions where they received lifetime income. Today, other than Social Security, the job is all yours. The mantra in the US many of us follow must be, “Spend baby, spend!” Use all of the cash you earn as well as the credit for which you can qualify. I bet you remember the bumper sticker, “He who dies with the most toys, wins!” That wasn’t the cash talking, it was the credit we all got high on way too much. With time running out, now we need to discard that point of view and exchange it for, “Save baby, save!” After all, if you don’t save, who is going to do the job for you? The biggest problem is that most investors have no idea how much money they might need when they would like to make work optional. Somehow we think hope is a strategy. Remember that 6 out of 10 retirees said their retirement was “somewhat” or “very unexpected,” according to Voya Financial. 60% weren’t ready for retirement. Life happens.
Many of us bought the concept that regular, periodic contributions to our retirement account, was a sound investment strategy. Generally speaking, the idea was that in a fluctuating market a consistent schedule of a set investment amount could mean that we bought more shares when prices were low and less shares when prices were high. Based on our time horizon, it may not matter how many shares we own or what the gain or loss might be. When we are, however, taking regular, periodic withdrawals during retirement that concept can be problematic. In the accumulation phase, if a portfolio drops by 50%, it will require 100% return to get back to even. In the distribution phase, if you withdraw 5% of your portfolio for income and suffer the same 50% loss, you need 122% market rebound to get back to your pre-decline value. Now suppose in the next year the account stays flat, but you need another 5% withdrawal, now you need 160% gain to get back to even. Then if you go to cash which means you may never get back to your starting value. Never is a long time.
Anthony Webb, a research economist at the Center for Retirement Research has studied 401(K) fees and has concluded that “as a result of high fees,” fund balances in some plans are about 20% less, so lower costs are attracting assets. Costs are part of the job, but fees alone are not the primary driver. Fees, investment vehicles, and investment returns are important, although the focal point should be how much savings is needed. If it were the case that cost savings would make account balances 20% higher, the average $76,000 account would be worth $92,000. Now that is a significant difference. If your goal is $2.5 million, however, you are still $2.4 million short.
Thanks to the US Census Bureau we can see that in 2013 the average household income in Thousand Oaks is $100,476 a year or $8,373 a month. If we set a withdrawal limit of 4% a year and you want to make work optional today, but you need the same income and you do not count income from Social Security and you don’t have a pension, the amount that is needed to invest this year is about $2,500,000. In a year with no growth you could safely start taking monthly income of $8,373. If you are talking with your cousin who lives in Ohio, where the household income is similar to the average family across the country of $51,939, according to the same source, your cousin’s family would need to invest approximately $1,250,000 today to produce the same $51,939 in a year. Now, perhaps for the first time, you both can at least see the target you are trying to hit today. The pension and Social Security plans worked because contributions where dictated by the plan, and contributions were not optional. It may be underfunded, but Social Security simply took what was needed before you got paid. Take a page out of that book and pay yourself first, at the beginning of each paycheck, instead of at the end of the month.
When you are in retirement mode, taking income from your portfolio you absolutely care about the sequence of the annual returns. For example, comparable portfolios might deliver the same or nearly the same average annual return over a 20 or 30 year period, but have radically different consequences to how long your assets can serve you. Negative returns, particularly in early retirement years can potentially reduce how long your assets might last you. Look for evidence where you can see that drawdowns were limited to a loss of -20%. This way you need 25% to get back to even. Then you can stick around and play the game as opposed to be left on the sidelines to be a spectator, feeling like a CPA friend of mine who says, “Retirement sucks.”
In a Wells Fargo/Gallup Investor and Retirement Survey Q12015 reports that 76% of investors say they are very or somewhat likely to do nothing and ride out periods of volatility. Let us understand that perspective may be a function of investors who have participated in the S&P 500 index that has more than tripled since its low in 2009, according to Forbes on 4/5/15. On the contrary, this may be the calm before the storm. In the world of reality, let’s look at how volatility, with no withdrawals, can change everything.
Choose carefully. Which one would you prefer Investment A or B?
When it comes to simple interest, while the easy answer is Investment B, the correct answer is select Investment A. American writer H.L. Mencken observed that,
For every complex problem there is an answer that is clear, simple, and wrong.
- Step 1: Turn on the lights in the room to see what financial goal you are trying to achieve so that you might arrive there safely.
- Step 2: Don’t throw your money in the air in the belief you are being “conservative” or “ aggressive” when you have no idea how much money you need.
- Step 3: Don’t be complacent looking at history. Look at where the consumer is spending money today as that may be an indication of where money might be made.
- Step 4: Diversify unlike you have ever thought of before.
- Step 5: Learn about and apply active management strategies.
Rather than holding on for dear life on that roller coaster, look for investment managers who are awake at the switch, looking at your money daily. Hire managers who will make suitable recommendations in a good or bad market. Look for companies that have been doing this work over the past ten to fifteen years. Above all, don’t be complacent and don’t get greedy. Then you can find ways where you might win more by losing less.