Helping Clients Close the Retirement Gap

Wednesday, November 2nd, 2011

“How do I close the gap on hit­ting my retire­ment goals?”

If you’re meet­ing with clients in their 40s and 50s, chances are you’re run into that ques­tion. Weak equity mar­kets over the past decade, low inter­est rates and a new con­sen­sus on a muted out­look for future returns means that some clients who five years ago were on track to retire at 60 or 62 can no longer be con­fi­dent about doing so.

It’s here that advi­sors can add real value, as you’re able to engage clients fac­ing a short­fall in a dis­cus­sion about the six options avail­able to them:

• Option 1: Work longer
• Option 2: Work part time after retirement
• Option 3: Increase the risk in asset mix before and dur­ing retire­ment to increase poten­tial returns
• Option 4: Change retire­ment plans; down­size houses ear­lier or cut back on spending
• Option 5: Reduce spend­ing now and invest more lead­ing up to retirement
• Option 6: Buy lot­tery tickets

Set­ting aside option 6, every solu­tion to clos­ing the gap en route to retire­ment will likely include some com­bi­na­tion of these alter­na­tives. And it’s here that finan­cial advi­sors can add real value; clar­i­fy­ing alter­na­tives and help­ing clients under­stand the trade­offs avail­able to them.

His­tor­i­cally, some advi­sors have been reluc­tant to get into con­ver­sa­tions about client bud­get­ing and spend­ing, focus­ing on the invest­ment side of the equa­tion. That may have worked in the past, but for clients look­ing to close a short­fall in retire­ment plans, you can’t ignore the impact of spend­ing, both now and in retire­ment. As part of that, an inter­ac­tive new web site gives clients the tools to quan­tify and man­age those reductions.

Quan­ti­fy­ing “the latte effect”

Most advi­sors have heard of “the latte effect;” the big impact that a small reduc­tion in non-essential spend­ing make on retire­ment portfolios.

And while many clients are vaguely aware of this, the chal­lenge is get­ting them to take action.

Iner­tia is an incred­i­bly pow­er­ful bar­rier to change. Telling peo­ple they need to alter behav­iour doesn’t work; they have to dis­cover this for them­selves. That’s why an inter­ac­tive sav­ings cal­cu­la­tor on a web­site called bills​.com (http://​www​.bills​.com/​w​a​y​s​-​t​o​-​s​a​ve/) offers an effec­tive way to show clients what hap­pens if they reduce spending.

There are three sim­ple steps. First, clients choose the return that they’ll earn on their sav­ings from 1% to 10%. Next, they select the length of time for which these sav­ings will be main­tained; any­where from 1 year to 30 years.

Finally, the site allows peo­ple to look at 20 ways they can cut back. From daily cof­fees and snacks to bot­tled water, gym mem­ber­ships, lot­tery tick­ets, enter­tain­ment and din­ing out. You pick a cat­e­gory and how much you think could be cut. Depend­ing on the expen­di­ture, the sav­ings are shown on a weekly or monthly basis. As peo­ple go through the dif­fer­ent cat­e­gories, there is a run­ning tally of how much bet­ter off they’ll be as a result.

Clients could go through this process in two dif­fer­ent ways. One is to go through each cat­e­gory look­ing for sav­ings and see where they end up. The other is to set a monthly sav­ings goal and then go through each cat­e­gory look­ing for ways to get to that goal.

Help­ing clients stick to their plan

Imag­ine that a 45 year old cou­ple chooses a 20 year time­frame and a 6% return on the amount they save, based on an all-equity port­fo­lio of qual­ity div­i­dend stocks. Hav­ing done that, they decide to elim­i­nate their two daily lattes while at work. At $4 each, that adds up to $80 a week that they put into a TFSA. By doing this alone, in 20 years they end up with an extra $160,000 in retire­ment sav­ings; at a 4% with­drawal rate, that works out to an extra $125 a week to spend in retirement.

Or let’s sup­pose they iden­tify weekly sav­ings of $200, adding up to $10,400 annu­ally. Of this amount, half goes to fund quar­terly long week­end mini-vacations in nearby cities, the other half goes into a TFSA for retirement.

After 20 years, that $100 a week into their retire­ment fund accu­mu­lates to just over $200,000. One way to trans­late this into con­crete terms is to tell clients that at a con­ser­v­a­tive 4% with­drawal rate, set­ting aside an extra $100 a week for the next 20 years results in an extra $150 a week for the dura­tion of their retire­ment, indexed for inflation.

As for the other half of their sav­ings that’s allo­cated to quar­terly mini-vacations, this is dri­ven by two pieces of behav­ioural research.

One relates to the need for short term rein­force­ment to main­tain dis­ci­pline. Quite sim­ply, most peo­ple need more than the prospect of a more com­fort­able retire­ment in 20 years time to sus­tain short term sac­ri­fice. That quar­terly mini-vacation pro­vides reg­u­lar imme­di­ate rewards en route to that long term goal.

The other research is on the pay­off from hol­i­days, some­thing I’ve writ­ten about before. There are three ways that peo­ple get a lift from vaca­tions; the antic­i­pa­tion lead­ing up to them, the enjoy­ment while on hol­i­day and the pos­i­tive mem­o­ries after­wards. What’s fas­ci­nat­ing is that as a gen­eral rule, the most pow­er­ful of these three ben­e­fits from vaca­tions is the antic­i­pa­tion in advance of get­ting away.

The con­clu­sion is very sim­ple: In addi­tion to tak­ing peri­odic longer breaks to decom­press and recharge, we’d all be bet­ter off if we sched­uled more fre­quent, shorter hol­i­days, so that we always have some­thing com­ing up to look for­ward to. That’s true for us and it’s just as true for our clients.

A last obser­va­tion on this site: Many clients who are fairly fru­gal or who don’t have to be con­cerned about their retire­ment still worry about the “live for today” mind­set of their chil­dren. The site can be a use­ful resource for your clients, but can be even more effec­tive if they can per­suade their kids to spend some time with it.

Note: The extra dol­lars at retire­ment are actu­ally greater than shown on the site, since the cost of those lattes and gym mem­ber­ships will go up with infla­tion. Off­set­ting that, the dol­lar amount the site shows clients end­ing up with down the road is in today’s dol­lars and will have lost pur­chas­ing power. In the inter­est of sim­plic­ity, I sug­gest you set this aside when hav­ing this con­ver­sa­tion with clients.

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Tags: 40s, 50s, Asset Mix, Closing The Gap, Consensus, Conversations, Financial Advisors, Future Returns, Gap, Inertia, Investment Side, Low Interest Rates, Option 1, Retirement Goals, Retirement Option, Retirement Plans, Retirement Portfolios, Shortfall, Tradeoffs, Work Part Time
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How Conservative Investing Threatens Retirement Futures

Wednesday, May 18th, 2011

How con­ser­v­a­tive invest­ing threat­ens retire­ment futures

Just as the Great Depres­sion scarred a gen­er­a­tion and left many with a poverty men­tal­ity that still per­sists, the two bear mar­kets of the last ten years risk shap­ing an entire generation’s atti­tude to investing.

That’s a key find­ing from a sur­vey of afflu­ent Amer­i­cans com­mis­sioned by Mer­rill Lynch and released ear­lier this year.

Events over the past decade have made it fash­ion­able for afflu­ent investors to adopt a “con­ser­v­a­tive” approach to invest­ing. That con­ser­v­a­tive stance is arguably the sin­gle biggest fac­tor pre­vent­ing investors of all stripes from achiev­ing their retire­ment goals — and that’s par­tic­u­larly the case for younger investors.

A per­spec­tive on con­ser­v­a­tive investing

Cat­e­go­riz­ing your­self as “con­ser­v­a­tive” when it comes to invest­ing is noth­ing new — for under­stand­able rea­sons, this has his­tor­i­cally been the stance among seniors and retirees. Beyond this, past bear mar­kets such as 1973 to 1975, 1980 to 1982 and the tech melt­down of 2000 to 2002 meant that the appeal of con­ser­v­a­tive invest­ing broad­ened to include many in their 40s and 50s — and this cer­tainly hap­pened in the first half of the last decade.

Through­out these down­turns, though, there was gen­er­ally a con­sis­tent pat­tern where investors became more con­ser­v­a­tive with age.

2008’s global melt­down has turned this pat­tern upside down. Today six in 10 afflu­ent investors under 35 con­sider them­selves con­ser­v­a­tive — sig­nif­i­cantly higher than older investors aged 35 to 65. What’s strik­ing is that of those who call them­selves con­ser­v­a­tive investors, 90% don’t under­stand the extent to which this approach will lead to lower returns in stronger mar­kets and can stand in the way of their retire­ment goals.

These are some of the find­ings from a Mer­rill Lynch sur­vey of Amer­i­cans with over $250,000 in invest­ment con­ducted in Decem­ber of last year:

• Over­all 47% of afflu­ent Amer­i­cans describe them­selves as “con­ser­v­a­tive investors.”
• 41% of afflu­ent investors aged 35 to 64 fall into this cat­e­gory, com­pared to 59% of those 18 to 34, whose aver­age age is 31.
• Two-thirds of con­ser­v­a­tive investors believe that a mix of low and mod­er­ate risk invest­ments will shield them from losses dur­ing mar­ket downturns.
• How­ever, only 25% believe that this mix will result in sac­ri­fic­ing oppor­tu­nity dur­ing stronger mar­kets and just 10% hold the view that this approach may impede achiev­ing their retire­ment goals. /… more

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Tags: 40s, 50s, Affluent Americans, Bear Markets, Conservative Approach, Conservative Investors, Conservative Stance, Consistent Pattern, Futures Investing, Global Meltdown, Great Depression, Last Decade, Last Ten Years, Mentality, Merrill Lynch, Older Investors, Retirement Goals, Retirement Investing, Stripes, Understandable Reasons
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