3 Biggest Risks Facing Your Retirement
As you’re nearing retirement, there are 3 risks you need to take into consideration when planning your retirement.
Stock Market Volatility,
1. Stock Market Volatility. Let’s say you were to invest $100,000 into the stock market. The first year you lost 30%. How much do you think you would need to earn the following year to get back to your original $100,000? If you lost 30% in the stock market this year, next year you would need to gain approximately 42.8% to get back to your original investment. The reason is because you’re earning interest on less money. In this example, you only had $70,000 in that second year to invest rather than $100,000 so you need to earn 42.8% rather to get back to your original amount.
If you were to invest $100,000 over the last 17 years into the stock market since the end of 1999 to the end of year 2016. Over this period, you can see we had some up’s and down’s. Some bear markets and some bull markets. The first few years were a loss, but it looks like we gained back some. It took us quite awhile to get back to that original amount.
Then, we had a huge drop in 2008 which I’m sure many of you can remember, and we’ve been working our way back up. The account is a little above $150,000 when it’s all said and done. Which means, over this 17-year period, your account has had an average annual rate of return of about 3.1%.
Now, 3.1% is not terrible. It’s definitely better than having a negative, but what we haven’t done yet is calculated all of the expenses that are associated with this account. Things like management fees which could be anywhere between 1%-2%. Inflation is another thing to consider. The average has been about 2%-3%. And…taxes! When you factor all of this into the account, you end up with a number more like 0%.
And I assume if I were to ask any one of you if this is the number you feel you’ve made over the last 17 years in the stock market, you would agree. The stock market has been going up for close to 10 years now and has been hitting a series of historic highs. But as recent events show, the market is not always a one-way street to prosperity. So perhaps the most obvious risk to your retirement nest egg is another 2008-style market collapse, when the market declined almost 40 percent, or even worse, a three-year decline like what happened from 2000 to 2002. Nobody can predict when the next bear market will come along and cripple your IRA or 401(k), but you need to be prepared when the next one does show up. Take care to select investments that will generate a steady income, and take steps to avoid outliving your money. That’s why it’s so important to make sure you’re managing your portfolio’s volatility as those negative years could have a big impact on your overall retirement outcome.
This is a picture of Mount Everest. I feel this is a great metaphor for the services I provide to my clients. Over 4,000 people have scaled Mount Everest. And around 290 people have died. But do you know how those 290 people died? The majority didn’t die attempting to climb Mount Everest, but rather they died trying to get down the mountain. You see, they planned and trained to get up and they certainly made it, but a lot of them didn’t think about how they will be getting down the mountain. You can use this analogy for how people plan for retirement. They spend all of these years planning and accumulating so they can get the most amount of money and get to the top, but when they finally make it and are in retirement, most people don’t have a plan on how to get down and make sure they don’t outlive their money. Successful retirement is not about your assets, it's about creating a guaranteed lifetime income.
When you retire, how long do you think the average length will be? It’s about 20 years. And right now, in today’s day and age, if you’re 65, the average life expectancy for females is 88 years old while males is 85 years. Some of you will live to age 95 or beyond. That means you might need to pay for several decades of retirement. But once you're retired, you live on a fixed income. There are no merit raises, bonuses or employer contributions to your retirement account. So even if you can afford your current lifestyle, you should consider what's going to happen over the next 20 or 30 years. Here are several issues to take into account when planning your financial future.
a) Rise in interest rates. Interest rates have been in a long-term decline since the early 1980s. With few exceptions, bond investors have benefited not only from the interest they've received, but also from the increasing value of their bonds. However, while bond prices increase when interest rates go gown, they also decline when interest rates increase. Recently, interest rates have reversed course and gone up for the past few months. If interest rates continue to rise, the bonds or bond mutual funds you own could lose value.
Keeping with longevity, you must also factor in the effects of inflation, typically 2 - 3% per year. The pictures on the screen demonstrate the effects of inflation. If you were to purchase a vehicle in 2017, and let's say, it to cost about $50,000. Using a 3% inflation rate per year, you can expect that same car in 10 years will cost you about $67,196. And in 20 years from now, it will cost about $90,306. Everything is going to cost you a lot more in the future.
Inflation has barely budged for the last few years. The official interest rate was just 2 percent for the last 12 months. However, the overall interest rate doesn't necessarily reflect the costs you pay at the gas station or for a heating bill. For example, the price of energy has gone up by 7 percent since last year. And if you look at what's happened over the past 30 years, prices have more than doubled since 1988, according to the U. S. Bureau of Labor Statistics. Whatever cost $100 in 1988 now costs around $215.
c) Long-Term Care. Long-term care poses another significant factor within longevity and the risk is only magnified due to us living longer.
What are the odds that you’ll need Long-Term Care between the age of 65 - 90? Well, let’s see. The odds of having a fire at your home is 1 in 1200. Yet, you’re required by law to have fire insurance. The odds of getting into a car accident is about 1 in 240. And you know we all are required to have car insurance. But the startling thing is that the odds of you needing Long-Term Care is 1 in 2. Yet, we are not required to have Long-Term Care insurance. There is a misalignment of needs. You’re forced by law to purchase insurance for these things yet Long-Term Care is a much more significant risk that you’ll need, but not required to do so. This is the ongoing assistance with some of the most basic activities of daily living.
This is a diagram that breaks down the Top 25% of income wage earners in America. In the middle column are educated guesses. This is household income so both people and it’s the Adjusted Gross Income (AGI).
Now along the right side, that's real data from the IRS. If you are making more than $67,000 a year in household income, consider yourself to be the Top 25% of income earners in America.
I now want to go into the common problem that all of these people face. The Top 1% account for 38% of the government’s revenue! Keep in mind, this is not the tax rate they pay, but rather the percentage of the tax revenue that is generated for the government. The Top 5% pay about 58% of the taxes that are collected. This is the total of the 1% and 5%. Then the top 10%, they account for 70% of the government’s revenue. And the Top 25%, collectively pay 84% of all of the taxes that are collected for the government. The Top 25% of income wage earners have a tax-flow problem.
So let me ask you this: do you think tax rates will be lower, stay the same, or go up at some point in the future? Before you answer, I want you to see this...
Take a look at this clock. This is a live look at the US Debt. What you’re seeing here is just a screenshot, but if you log onto www.usdebtclock.org, you can see all of these numbers moving in real-time and believe me, they are moving fast!
So fast that the number you see up here - $20,594,808,557,523 – was the screenshot that was taken more than 3 months ago when I created this PowerPoint, but it has risen significantly since then. That number is the official debt we all owe as a nation: $20,594,808,557,523. And right next to that number is the Debt Per Taxpayer which is $170,4223. Keep in mind, that number is weighted to the income you make so some of you may owe the government $300, $400, even $500,000 in the nest 10 - 20 years.
So let me ask you again: “Where do you think tax rates are going?” With the recent financial bailouts and wars, the wealthy assume that tax rates are going to go up and they are preparing accordingly by implementing strategies that reduce or eliminate taxes altogether.
Now, let’s say tax rates were to stay the same when you’re in retirement. Your three biggest deductions: (1) mortgage interest, (2) child exemptions, and (3) qualified contributions (401(k) or IRA) are likely to be taken away when you’re in retirement. Your three largest tax deductions will be no more when you’re in retirement; possibly leading you to pay a larger amount of taxes.
There's no reason to panic over any of these risks, but you should prepare for each one of them. Keep your retirement accounts in a diversified portfolio, with enough cash to cover foreseeable needs and unexpected expenses. Have several sources of income, including Social Security, a pension and your own savings. Take care of your health as best you can. And nurture a network of family and friends who you will help if they get in trouble, and who can help you out if and when you need it.
Feel welcome to contact me at 702-551-1141 if you have questions.