That Retirement Calculator May Be Lying to You

[MichaelB]

The headline for a story in Bloomberg this morning here. The bottom line of the story is that retirement calculators may be overestimating expected portfolio returns, based on projections by Research Affiliates (stocks 5-6%, bonds 2%), Jack Bogle (stocks 7 – 7.5%, bonds 3%) and T Rowe Price (balanced portfolio 7%). The calculators use historical returns, which are higher. It then goes on to discuss various online retirement calculators.

It does highlight the importance of low expense ratios in low return scenarios. There is no mention of inflation, a serious shortcoming. There is also no mention of Firecalc, an egregious error.

I do wonder about projections of future returns. Even when they may be well founded and based on sound methodology, they do not account for volatility. Rebalancing portfolios after significant price changes can lead to higher total return compared with buy and hold, which is assumed but not mentioned in article (and most calculators).

 

[ziggy29]

Interesting. It does go back to some of our discussions as to whether or not we're in a long-term "new era" where historical returns are lower than we're accustomed to. These are similar dynamics to those which believe the SWR is closer to 3% than 4%, because 4% assumes "old economy" returns.

I tend to be conservative to the point of paranoia in my planning, though, so whatever changes they make to the planning recommendations, mine are probably even less rosy.

 

[73ss454]

When do we get some good news?

 

[REWahoo]

When do we get some good news?

Here's some 'good' news: at your age you probably won't live long enough to have to worry much about it!

 

[73ss454]

Here's some 'good' news: at your age you probably won't live long enough to have to worry much about it!

Finally, some good news!

 

[Nords]

When do we get some good news?

When you start seeing this magazine cover everywhere:

 

[chinaco]

If so, it makes investment expenses even more important.

 

[rescueme]

If so, it makes investment expenses even more important.

Important? Yes.

However it's not the primary artifact for investment decisions IMHO as those on other forums would try to make you believe...

 

[ERD50]

Do those calculators give rosier projections than FIRECALC?

FIRECALC is showing you the worst 30 year periods. Stock returns over those times were probably pretty grim. So if you use FIRECALC as your guide, I think the relevant question is:

Relevant - Will my future real returns be as bad or worse than the worst 30 year periods in history?


And NOT:

Less Relevant - Will my real returns be lower than average historical returns.


Essentially, most retirees should be concerned about the failures, and far less concerned about means and medians. The average of a default FIRECALC run leaves you with 1.74x the buying power of your starting amount - pretty sweet! Little good that does you in the 5.4% of cases where you run out of money.

-ERD50

 

[LARS]

They way I've been looking at calculators lately is to play around with real returns. Basically looking at what happens to a portfolio if it gets 0.5% to 1.0% real return over expected life. I figure (hope ) that is more than conservative.

I've yet to go totally to the darkside and look at negative real returns over expected life, but who knows

 

[ziggy29]

Do those calculators give rosier projections than FIRECALC?

FIRECALC is showing you the worst 30 year periods. Stock returns over those times were probably pretty grim. So if you use FIRECALC as your guide, I think the relevant question is:

Relevant - Will my future real returns be as bad or worse than the worst 30 year periods in history?

Maybe. But right now there's a lot of fear out there, and I'll bet a lot of the more fearful folks think that come 2030, we will have just finished the worst 30-year history of the equity markets by a fairly wide margin. I'm not making that prediction, just speaking to the amount of pessimism out there. (Neither would I bet against this, though.)

 

[ERD50]

Maybe. But right now there's a lot of fear out there, and I'll bet a lot of the more fearful folks think that come 2030, we will have just finished the worst 30-year history of the equity markets by a fairly wide margin. I'm not making that prediction, just speaking to the amount of pessimism out there. (Neither would I bet against this, though.)

And I'm not making any predictions either, just trying to frame the question properly. The next 30 years could well be worse than the worst of the historical 30 year periods. Records were made to be broken. That is one of the reasons that I feel that a 4% WR is a bit aggressive for a 30 year period, especially when that includes 5% failure scenarios.

-ERD50

 

[W2R]

The headline for a story in Bloomberg this morning here. The bottom line of the story is that retirement calculators may be overestimating expected portfolio returns.

My response to the article - - - Well duh! Slow news day? A retirement calculator is only a tool and is better used to raise flags than to be the sole basis upon which one would pull the trigger.

Although I think this is how most of us would use a retirement calculator, I suppose there are other, less sentient souls out there who might mindlessly and submissively obey whatever the calculator told them. Perhaps the article is aimed at them. Retiring with eyes firmly closed is not generally advisable.

 

[Brett_Cameron]

Interesting article. I had previously come up with a 5.9% projected return for a 60/40 portfolio. Maybe need to lower that a bit for my projections.

 

[jdw_fire]

Maybe. But right now there's a lot of fear out there, and I'll bet a lot of the more fearful folks think that come 2030, we will have just finished the worst 30-year history of the equity markets by a fairly wide margin. I'm not making that prediction, just speaking to the amount of pessimism out there. (Neither would I bet against this, though.)

well, looking back over the last 11 years or so your right about the equity market but if you had a 50/50 or even 60/40 porfolio didnt the bond portion perform well?

 

[MichaelB]

Well. I sent a short note this morning to the editor, brought up the need for inflation for a more complete story, and then mentioned Firecalc. She wrote back, acknowledged the part about inflation, and indicated she was not aware of Firecalc but was going to look into it.

Most editors don't bother responding, much less acknowledging.

 

[MichaelB]

When you start seeing this magazine cover everywhere:

How about The Economist this week?

 

[harley]

How about The Economist this week?

I'm afraid because politicians are doing something about the economy.

The best that can be said is that they now have a plan to have a plan, probably by early November.

 

[urn2bfree]

In a debt crisis like we have now, it us unlikely recovery can come without government sticking it's big fat hands in and moving money around. Individuals are too scared and are paying down debt with any extra cash... That will not stimulate. The government acting in the same s seedy cat fashion will put us right where Japan has been--stuck--the Japanese never took enough govt action to overcome the huge debt hole their consumers were in..
When stuck in this way -like it or not government haters and distrusters- and there are good reasons to be both--ONLY BIG BIG INFLUX OF SPENDING like huge- can hope to move this beast out of the muddy rut the last 10 years drove us into...short of WWII type level of govt consumption of goods and services - we aren't going anywhere for 10 years. At that point the big spending will be baby boomers fed up with their kids still living with them and will payi anything to get their own kids to move the heck out of their houses and get a place of their own!

 

[ERD50]

In a debt crisis like we have now, .... --ONLY BIG BIG INFLUX OF SPENDING like huge- can hope to move this beast out of the muddy rut the last 10 years drove us into...short of WWII type level of govt consumption of goods and services - we aren't going anywhere for 10 years.

Could very well be, but I think we can be much smarter and targeted with the spending though. Not just throwing money at it.

I was at a Town Hall meeting recently, and one guy I talked with suggested that instead of extending unemployment, the govt could pay a portion of the salary for X months for any company creating jobs. I'm don't know if that is a good or bad idea, and it wouldn't solve problems on its own, but it struck me as a much better way to look at the problem. Pros/Cons:

1) Could create jobs - a company would be more likely to open a position if they only had to pay, say 1/2 or 1/3rd the salary (govt pays other half or 2/3rds or whatever number 'works').

2) Ought to be cheaper - 1/2 or 1/3rd of a salary is less than unemployment pays in most cases.

edit - this says 36% on average - so not as 'rosy' as I stated, but could still help to a degree

http://en.wikipedia.org/wiki/Unemployment_benefits#Current_data

3) People would actually be working for the money, and producing, and making a full wage - meaning they have money to spend. That stimulates the economy.

4) Products/services would be cheaper since the cost of doing business would be 'cheaper' (not actually cheaper - just transferred to another account, but that could still be a short term stimulus)

5&6) People would get training on jobs, employers would get exposure to good workers (or cull out bad ones w/o a full investment).

7) Workers would no feel like they were 'on the dole' - they are working for their money.

I can't really think of any cons - maybe the oversight needed to assure these are really 'new' jobs, or that a business doesn't lay off just to create new jobs (FICA records should help with that). And this is assuming the money was going to be spent anyhow.

That's just off the top of my head. Wouldn't it be better to put 2 or 3x people to work, than to pay 1 to not work? But if we were smarter in dozens or hundreds of ways, maybe the govt spending would really have a future payoff? I just don't think most of the current programs accomplish that well, or at all. How can one expect unemployment to go down when unemployment keeps getting ever more generous subsidies?

I think smarter, targeted programs could go a long way towards improving the economy and our portfolios.

-ERD50

 

[GregLee]

I was at a Town Hall meeting recently, and one guy I talked with suggested that instead of extending unemployment, the govt could pay a portion of the salary for X months for any company creating jobs.

Sounds sort of familiar.

The government could agree to provide for 50% of a new employee's salary if an employer adds a job and gives it to someone who's been out of work six months or more.
Federal Jobs | Federal action should aim to create private sector jobs - Los Angeles Times

 

[ERD50]

Sounds sort of familiar.

Quote:
The government could agree to provide for 50% of a new employee's salary if an employer adds a job and gives it to someone who's been out of work six months or more.
Federal Jobs | Federal action should aim to create private sector jobs - Los Angeles Times

Thanks for that link.

I'm not sure the idea of having to wait 6 months is good. But I haven't really thought this through that much - it's more of a brainstorming thing for me. Just that there must be some better 'out of the box' ways to break the chicken-egg cycle we are in (too few will hire because too few are spending and too few are spending because too many don't have jobs).

It did seem like he was doing some shell-game accounting there. Was he saying that because the govt is getting some profit from selling MBSs, that they can use that and it won't 'cost' anything? I guess I'd like to see the offset from not paying unemployment. Many of the benefits I mentioned are less tangible - the 'pride' of someone working for their paycheck, training opportunities, etc.

-ERD50

 

[NYEXPAT]

The only way to get the consumer out of the hole they are in is some form of debt forgiveness/bondholder haircut.

 

[traineeinvestor]

The only way to get the consumer out of the hole they are in is some form of debt forgiveness/bondholder haircut.

I'd rather see consumers dig their own way out of whatever hole they have dug themselves into and, if they can't do that, bankruptcy is a better solution than a free ride on the backs of lenders and bondholders - bearing in mind that the biggest non-government holders of bonds are pension plans. At the risk of overly simplifying the issue, a haircut for bondholders = a haircut for pensions.

 

[traineeinvestor]

I'm afraid because politicians are doing something about the economy.

+1

If the banks have been reckless then the politicians and central bankers have been criminal.