The Concept of a "Number" for Retirement is Completely Bogus

Early in the day yesterday Carrie Pomerantz-Schwab from Charles Schwab INC and Barry Rand from AARP came on CNBC to talk about a new partnership to help people better prepare for retirement. In citing all sorts of grim statistics about how unprepared people are for retirement one in particular got me thinking, maybe flipped the switch on something. They said that only 55% are confident they know how much they will need to retire. Not know they will have enough but, as I read it, simply know what number they need to shoot for.

The math here is easy; the income you think you need in today's dollars divided by 0.04 (assumes the 4% rule) and then do a little spreadsheet work to figure for a reasonable rate of inflation and then maybe an extra cushion for one-off events. That would tell you what you need.

Do you observe any problems or flaws in the above paragraph? It relies on being generally correct about three predictions for the future, depending on your age--the distant future. There is more than a little folly embedded here. On the first assumption; you don't know what your life will be like in the future. On the second assumption; most people don't know more than economists and economists are wrong an awful lot. The third assumption also ties into the vagaries of life.

The last ten years has been a great lesson about the folly of stock market return assumptions. The US stock market had "bad" decades in the 1930s, 1970s and the 2000s. Once is an accident, twice is a coincidence and three times is a trend (I attribute that one to Chris Berman). If you are retiring at the end of the 1990s (and presumably reducing equity exposure or volatility a little) or the end of the 2000s is a matter of luck; the vagaries of life.

I guess I am saying more attention needs to be paid to the variables involved. This does not necessarily mean trying to predict your future so much as take to heart that every assumption could turn out to be very wrong. An annualized return of 5% versus an assumption of 6% combined with inflation of 4% versus an assumption of 3% doesn't sound like too much of a difference but it would be a dealbreaker.

I don't know what the stats are about how many people used to get pensions versus how many people now will not but we know that defined benefit plans are well on the way to extinction in business (and maybe on the way to failure for the various public pensions) to be replaced by defined contribution plans. There have not yet been that many people who've retired with 401ks and the majority of those who have did so in the last decade when domestic equity returns were lousy. In a way there is an argument to make that says defined contribution is an experiment that may or may not work out and there is evidence that the odds for success are not great.

So far this post probably seems like a downer but I don't view it that way. In this instance we have a better chance of overcoming obstacles by really understanding what the obstacles are. A financial plan is a roadmap that is crucial in that it gives you something to measure against just with no guarantee for success.

Long time readers will know my philosophies (if that is the best word) related to living below your means, saving aggressively and finding a way to make money after you "retire" doing something you love and would do for free.

As far as investing around so much long term uncertainty, this can be as simple or as complicated as someone wants to make it. At the moment that the portfolio becomes an income source it has a certain value. The value at the time may be what you hoped for or not but there is no amount of hoping that can change the value or the reality that goes with that value. Understanding this form of potential denial like pulling $10,000 out of a portfolio that can only sustain $5000 can stave off one type of problem.

There are countless ways to have success in the stock market, this blog is about one belief on how to do that, but we have less control over our long term result than we do over our savings rate. Over the long term most people will be lucky to be somewhat close to whatever the market does during their investing lifetime. If you are worried about what the US market might (not) do during the remainder of your accumulation phase then maybe the answer is to pick another market or another few markets. After all what is the S&P 500 if not a country fund?