The retirement challenge facing most Americans is how to achieve a balance between investments that are safe and secure while at the same time providing the growth and eventual income needed to adequately fund retirement expenses.
Of course there are many factors influencing investment decisions that need to be made which include overall health and life expectancy, the kind of lifestyle planned during retirement, the amount of capital already put aside and the actual ongoing performance of the investment portfolio.
Taking advantage of the long view
To maximize an increase in funds over many years it is necessary to minimize the costs associated with investing and this means minimizing the fees, commissions and other costs of trading and funds management. The best way to achieve this is to invest in broad-based stock-index funds — either mutual funds or exchange-traded funds (ETFs). Not all index funds have the same fees, and over many years these fees can add up so it is important to carefully check these costs.
Where patience comes in
In addition a problem for many investors is that they react emotionally to the short term gyrations of the stock market. Historically, the "average investor" tends to panic and sell when markets fall, turning a temporary decline into a permanent loss of capital. Because there is a large financial press clamoring for attention, news about short-term declines is hard to avoid, and it's easy to act/sell on exaggerated fears. If it was as easy to track the daily value of your home and sell it when mortgage rates or unemployment jumped, many would have unfortunately sold at the bottom of the housing crash.
There will certainly be stock-market corrections (defined as a 10% or more fall in the overall stock market) and even bear markets (defined as a 20%-or-better drop) every few years, prior to and beyond your projected retirement date. Recent bear markets have resulted in 50% or larger declines, and weathering these bear markets takes a certain amount of fortitude, patience and understanding that selling at these times can be devastating to a nest egg. Since there have been 20 bear markets since 1929, or approximately one every four to five years, investors can expect several more prior to their date of retirement.
Balancing it all out
Some investors think they can avoid the anxieties and risks of investing in stocks by relying on the less-volatile asset categories of bonds and money-market funds; however, because these vehicles return so much less over the long term, an investor would need a huge portfolio to be sure her/his income would not run out or be inadequate for the full number of years of retirement.
A blend of stock funds, bond funds and cash would reduce the magnitude of swings in market value as compared to a 100% investment in stock funds. This would make it easier to tolerate down market times.
To achieve a balance between investments that are as safe as can be expected while at the same time provide returns that enable you to meet your financial needs, check your investment strategy using a retirement income calculator. This will help show you the tradeoffs that different combinations of stock and bonds your portfolio will produce. You may find you will need to adjust your planned expenditures during retirement, increase your pre-retirement savings, dial up the percentage of risk-based investments in your portfolio, or continue to work longer than you anticipated.
Here are links to some retirement income calculators:
- CNN Calculator. Enter your age, retirement age and what you have saved so far and the calculator will project how much money you will have at 67 years of age.
- Vanguard Retirement nest egg Calculator. How long will your retirement nest egg last? How much could your investments grow? Answer a few questions to see a long-term projection. Then try making a few changes to view the impact on your results.
- T. Rowe Price Calculator. Share some information about your retirement needs and investments. This tool will run 1,000 market simulations to evaluate your chances of success and offer some tips to help improve your situation.