I want to play golf every day when I retire. Or at least have the option to. Want to join me?
I’ve come to find that I’m somewhat in the minority in that I have an idea as to what I want to do in retirement.
Suffice it to say, a lot can and will change over the course of 20-30 years, and my own plan/vision may change over time (particularly if my golf game doesn’t improve!!).
Further, volatility in the markets over the past decade, together with gov’t benefits programs being on the fritz, have led many people to feel as though their long term destiny is out of their control, or at least out of their current concern.
Let’s put some context around long-term planning to see if we can motivate you to take action now.
In financial planning, there are two primary ways that your retirement income number can be derived, which will dictate your quality of life:
1) Goal-Based: Analyze your current spending habits, think through your lifestyle goals, and factor in the relevant changes to those things in retirement.
2) Asset-Based: Based on the retirement assets you end up with at the start of retirement, apply a set withdrawal rate of 4-4.5% in the first year, and then increase that based on cost of living (CPI) increases each year (assuming a conservatively allocated portfolio).
Which Approach Is Best For You?
Goal-based retirement income planning works great for middle-age accumulators since you have time to materially affect the outcome of your goals, to say nothing of determining the quality of life you’ll be able to enjoy.
You can work to increase your income and savings levels, adjust your portfolio risk, and/or plan on lifestyle changes to be in line with your income and savings goals.
When you have 20+ years of savings ahead, small adjustments make a big difference ($500/mo saved today will grow to almost $315k in 20 years at 8% growth).
Asset-based, by contrast, disregards what you may want and instead dictates what you get.
The asset-based approach allows for a 4% annual withdrawal rate from a conservative portfolio, starting in year 1 of retirement, and increases that withdrawal by the CPI each year.
Using such an approach provides 30 years of longevity, and has been successfully tested against every 30-year rolling period since 1926 using market index returns and CPI data.
So, if Goal-Based isn’t in the cards, then simply sticking to this 4% rule should surely see you through a 30-year retirement, right?
If Only It Were That Easy
What this rule doesn’t take into account is investor behavior. Not surprisingly, this rule has been criticized at times for being too aggressive (withdrawal rate is too high and unsustainable) during difficult market cycles such as 2000 to present).
It has also been disparaged for being too conservative during exceptional market cycles (late ’80s to late ‘90’s), with the charge that it would leave too much money unspent.
Short-term investor memory and behavior often puts the best plans to ruins, when it results in inappropriate deviations.
For example, after throwing in the towel on US equities during the 2008-2009 massive bear market, the US Equity market has been among the highest performing asset classes in the last two years.
Now, investors are second-guessing the value of diversification, and tending toward the idea that they can just buy a low-cost US equity index fund and hold it for 20 years.
What invariably happens is investor money follows the most recent high-performing asset class, only to be disappointed over the subsequent years when other areas gain momentum and outperform, which is when the idea of diversification is again deemed important.
When this occurs, investors are once again unhappy with their short-term decisions, and continue the downward spiral of performance chasing.
Consequently, the 4% rule no longer works, as required returns are not achieved.
Take Action Now
We hear from people quite often that they’ll be happy to work past the normal retirement age, or will likely never stop working.
While this is certainly possible, and many good people do it, it is one thing to continue working when you know you don’t have to, and quite another to have to keep working out of necessity.
The time to make a material impact on your retirement picture is in the heart of your accumulation years.
If you haven’t thought seriously about this yet, and would like to have a say in the options that you’ll have in your later years, we would encourage you to contact us to start the process.
Putting off doing so will likely mean that you’ll end up being stuck with an Asset-based dictation of your retirement income (or just not having the luxury to stop working if/when you want to).
Need Two More Reasons to Act Now?
If you need more convincing to take action, I would recommend two more things:
1) Go and talk to someone who is at or near retirement and ask them if they wish they had started planning for their retirement sooner.
2) Go to In20Years.com, upload a picture of yourself and see what you’ll look like in 20 or 30 years! That is the person you are making sacrifices for today!
See you on the golf course!