The basics of retirement planning are not tricky. Save 10-15% of your income for about 40 years working career (likely over 15%, if you don’t have some pension or social security – with some pension around 10+% may be enough depending on lots of factors). That should get you in the ballpark of what you need to retire.
Of course the details are much much more complicated. But without understanding any of the details you can do what is the minimum you need to do – save 10% for retirement of all your income. See my retirement investing related posts for more details. Only if you actually understand all the details and have a good explanation for exactly why your financial situation allows less than 10% of income to be saved for retirement every year after age 25 should feel comfortable doing so.
There is value in the simple rules, when you know they are vast oversimplifications. I am amazed how many professionals don’t understand how oversimplified the rules of thumb are.
Here is one thing I see ignored nearly universally. I am sure some professions don’t but most do. If you have retirement assest such as a pension or social security (something that functions as an annuity, or an actually annuity) that is often a hugely important part of your retirement portfolio. Yet many don’t consider this when setting asset allocations in retirement. That is a mistake, in my opinion.
A reliable annuity is most like a bond (for asset allocation purposes). Lets look at an example for if you have $1,500 a month from a pension or social security and $500,000 in other financial assets. $1,500 * 12 gives $18,000 in annual income.
To get $18,000 in income from an bond/CD… yielding 3% you need $600,000. That means, at 3%, $600,000 yields $18,000 a year.
Ignoring this financial asset worth the equivalent of $600,000 when considering how to invest you $500,000 is a big mistake. Granted, I believe the advice is often too biased toward bonds in the first place (so reducing that allocation sounds good to me). To me it doesn’t make sense to invest that $500,000 the same way as someone else that didn’t have that $18,000 annuity is a mistake.
I also don’t think it makes sense to just say well I have $1,100,000 and I want to be %50 in bonds and 50% in stocks so I have “$600,000 in bonds now” (not really after all…) so the $500,000 should all be in stocks. Ignoring the annuity value is a mistake but I don’t think it is as simple as just treating it as though it were the equivalent amount actually invested.
There are many other factors that need to be considered to determine the right allocation. But I would be much happier saying ok we have $600,000 of equivalent assets to start with now we have $500,000 – lets go to $350,000 in stocks, $50,000 in cash and $100,000 in dividend stocks (in todays market – as a alternative to bonds). I wouldn’t mind having the $100,000 in bonds in another market.
I could also see having less in stocks for other reason (based on the many other aspects of the portfolio and personal financial situation). But don’t just ignore what level of annuity income is part of the financial portfolio.
Those paying attention will note that interest rates have a great affect on the equivalent bond amount. If rates were 5% the equivalent amount would be $360,000. This huge difference in “bond value” is one reason why bonds are so risky as an investment now. Rates increasing from incredibly low level lik 2 or 3% will drastically reduce the value of those assets. Owning assets that drastically decrease is not wise.
This view is oversimplified too. If you owned bonds with a short duration (say 3 years) you would not experience a loss of $240,000. That is a topic for another post. Basically the example is only looking at income replacement not capital – which doesn’t give a complete picture at all. The basic point to remember here, about bonds, is that long term bonds are very dangerous when interest rates are low. The idea that bonds are safe is misleading. As part of a portfolio that view can make sense. Calling them safe, in isolation, is misleading.