Last night I caught Frontline: The Retirement Gamble just as I was retiring for the evening. It was good enough though that I’ll watch the recording again in the early evening tonite before I crawl in bed, this so I can pay more attention to what were some really good facts and suggestions.
First off, I’m NOT a financial planner, just a guy with a reasonable amount of sense and an appreciation for the fact not everything is always quite like it might appear on the surface, including most aspects of the market, so apologies beforehand if some of my analysis is simplistic. But there were a couple of really good points made in the show presentations, the first of which dealt with the hidden fees associated with mutual fund participation and just how much those can cost you over the long run. It’s estimated that on average a family will lose income of around $155,000 over their ownership of a retirement account due to fees and interest to the fund(s). As an example given by John Bogle, the founder of the Vanguard funds, if you had $100,000 in a fund making 7% per year but you were paying an EXP ratio of 2%, your earnings over it’s life might be reduced by 2/3. Yes, as incredible as that sounds another of the professionals interviewed calculated it out with the appropriate table and the fees amounted to around 66K and the remaining principal around 34k. Unbelievable.
Further discussion centered on managed funds and how they consistently are unable to outpace index funds, especially once the fees are considered. How some managed funds charge not just 2% but even up to 3, 4 and 5%. The cost over time is staggering. Also, the differences in advisors, whether they have a legal responsibility to provide you with the best advice to you or if they’re motivated, legally even, to make money off you regardless of the performance.
What all this did was make me revisit my 401 this morning and look to see just what I’m paying and getting in return. I started maxing out a 401 about 16 years ago, it’s done very well and the considerations have become significant. Thankfully, no fees were anywhere near 2% (Fidelity). The highest was .63% for a non-US equity and agressive premix, .56 for large cap value and down to .17 and .15 for mid cap equity and an S&P index. I did though make some balance and contribution adjustments based on the information presented in the show.
So I’m curious if anyone else happened to see this or has been presented with similar findings recently and if it’s caused them to reconsider their current allocations? Are there other concerns you have now that are driving a modification in your overall strategy? If the market makes another large correction in the near future, and many pundits argue that that will be the case, will you react differently than you did in '08? Are there certain sectors or vehicles that you avoid entirely?
Obviously, no one should make financial adjustments based on discussions over a message board, but it can be quite appropriate for reasoned discussion and thoughtful consideration. Thanks.
I’ve always invested as much as possible in index funds with low cost. Sometimes the fees get as high as the high 0%s, but that’s only in jobs that do not offer cheaper options in their 401K. Sometimes when a company has one good option and the rest bad (either in allocation or fees,) I put all I have in my 401K per se into that cheap fund, and then reallocate my Vanguard IRA for the rest of my needed diversification.
It’s what I would expect. I’ve never seen a great advantage particular to 401Ks except for the employer contributions. Those are worth much more to most people than the savings in fees they would receive from other types of investments. And it’s nothing new, this is the game that’s been going on forever in the financial industry, it’s called ‘too big to fail’ now, it used to be ‘widows and orphans’, but the average Joe with some savings takes the hit in financial crises. The biggest* hit from the Bush financial collapse was 401K and similar plans, no bailouts for them.
*including small and large values of ‘biggest’. I don’t remember the details.
I put everything in low cost index funds. I’ve also moved money around a bit sometimes to make sure I can maximize the funds that have lower rates due to having certain threshold amounts in them. That’s another thing to pay attention to.
The 2% fee that financial services take for actively managing funds is a ripoff, IMO. But some people prefer to pay it, thinking they can beat the market with these funds. That’s their choice.
The real ripoff is the 12% or so that we all are forced to pay into Social Security. If I were allowed to invest that on my own I’d be a millionaire already. That’s a lot higher than 2%, and it’s not optional.
That managed funds rarely outperform the market is not new news. I’m really really surprised that you’ve been contributing for nearly 20 years and just learned the for the first time.
I watched that too and am also planning a re-watch when I can pay closer attention.
So I’m going to run my little still-forming-theory past you all – will you please shut me down if my thinking is stupid? I am not inviting a thorough flaming; however, I’m willing to concede that I don’t know much about this stuff and find it all too easy to make up nonsense to fill in gaps in my understanding.
I’m beginning to look at financial planning-for-retirement advice as “those people aren’t talking to me; they are talking to people who actually have money.”
I am single, staunchly middle-class, have a 401(k) and an IRA and am about to cash in a pension (more on that in a minute*), and I’m in my early 40s. No children to worry about funding college or anything. Yet, I consistently hear/read the advice that I should have about a million dollars to retire. Even if I saved and invested 100% of my salary from now until age 67, and knew wtf I was doing wrt investing, I will never have a million dollars. So my first question is, What the hell is that million supposed to be for? My house will be paid off around age 60 or earlier. Why do I need a million dollars? Wouldn’t I have insurance/Medicare to cover medical expenses? Beyond that, we’re talking groceries, taxes, insurances, and utilities for maybe 20 years. I don’t plan on living much past 80 and I think that’s ambitious in my case (20-year smoker – hell, I’ll be fortunate to live to 67 unless I quit and even then…hm, crap shoot).
I didn’t start investing/saving until my early to mid 30s. There was no “pay yourself first” in my case. Most paychecks, it took every single penny I earned to keep the lights on and food in the fridge, and rent paid. I borrowed from myself/against my next paycheck probably at least a few times a month. It wasn’t until I’d been working 10-15 years that I finally made enough to be able to afford to give up 1% off the top to a 401(k). I am just now really contributing a substantial percentage and my company is matching well. Still, I look at the numbers and run them through all the retirement calculators and I simply cannot see how this small amount of money I have right now will somehow add up to a million bucks in 25-ish years. I’ll be lucky if I end up with a couple hundred thousand, and that’s IF (big if) the stock market doesn’t tank like in 2008 a few more times between now and then. (No reason to think that it won’t at this point.) And I’m still not sure why I need it, beyond basic living expenses. And that’s assuming Social Security will be dead and buried in 25-ish years, although it may still be there. Either way, whatever I get won’t go as far then as it would today. So what might look like a reasonable SSI benefit now might be chicken scratch by then.
So I’m starting to wonder… is all this investment advice really for people who have money and can afford to sock away tens of thousands of dollars a year? Is it for people who have families and will be retiring around the time their children start college or something? Because it’s starting to think that the Wall Street types and financial planners who are making money hand over fist off people like me, are really just doling out advice that will put as much of my money in their hands as possible. You know, flood the market with money so people who have money will make more money and people who don’t will lose it due to ignorance about investing (See also: former Enron employees). I’m starting to think my money would be safer stuffed in my mattress or buried in mason jars in my backyard.
Do y’all think all this investing advice is for real people, or is it really for people who make like, six figures? What about people who make even less than I do and don’t even have 401(k)s and IRAs and pensions – how are they supposed to retire? Where do they get their million and wtf are they supposed to need it for? Is Charles Schwab talking to restaurant servers and cleaning ladies, or just wealthy people with MBAs?
A very small portion of my nest egg (less than 10K) is in the form of a pension hungover from when my company bought out the company I used to work for. Recently, to clear liabilities off their books and make their profit margins bigger, the former company is offering to let you cash out early. I could roll it over to my IRA, but I plan to take the 30% penalties and pay off my second mortgage. According to the calculators, I think I can do better with that money – greater return – by buying equity in my house than letting it sit there, out of my investment control, at only 4%. Point being: I’m not sure which is the bigger gamble, the bulk of my eggs in the 401(k)/IRA basket or taking a couple eggs out of the pension basket and dumping them into the home equity basket.
Well, there is a lot going on in your post, but to answer some of it…For someone who graduates college and steps into some sort of professional career with a professional salary, starting right off with a 401k and maxing out their contribution - accumulating over $1,000,000 is very reachable. For someone NOT earning a professional salary from a young age - and NOT starting to contribute right at the start - then no, $1,000,000 would be very very very difficult.
Now, why do you need that much? The assumption that you are going to have significantly lower expenses at retirement is not true for everyone. For a lot of people, they would need to have almost as much as they were making while working. So, to generate that from a retirement account you need a pile of money. They typical draw down is recommended at 4%. So, for those people, they have to have enough sitting there so that only 4% equals their annual income they were are making at retirement. If you wanted $60,000 a year in retirement, you would need $1,500,000 to start. (Setting aside Social Security, and assuming you are leaving an inheritance. It’s not always wise to try to time the draw down by dividing the whole amount up by the number of years you plan on living - what if you happen to live 10 years more? OOOPS!)
I finally had enough money to invest back in about 2005. Rather than invest it, I threw it into savings and spent most of the next year reading some investing books. I was unaware of the fees that the funds in my 401(k) were charging. I’m pretty sure that Fidelity Magellan was charging about 2% at the time. Not surprisingly, it was underperforming the S&P 500 by about 2% a year. I quickly changed my distributions to an S&P 500 index fund with about 0.3% fees.
I don’t think that many of the big mutual funds charge 2% or more these days, unless they are highly specialized. I’m thinking exotic emerging markets and the like. I think that back in the 1950s and 1960s, some mutual funds could outperform the market and justify the hefty fees. The established markets are too efficient these days, and there is no way to justify anything above a paltry maintenance fee.
On a related note, I always kind of giggle when people of modest means talk about their financial planner. My opinion is that most financial planners will not be able to pick investment options any better than the average person choosing a range of index funds. I recall a coworker during the big market run up in 2007 who boasted that his financial planner had got him into a few stocks that were up 15%. I looked at him and said that everything is up 15%.
I asked about investment options myself. I’ve been hearing good things about index funds for years. Looks like I’ll be seriously examining them now that I have the extra savings to invest.
I (and others) have been saying it for years but there is no real reason for the mutual fund industry to exist at all let alone at the scale it does. It is a true scam whose main purpose is to enrich the people running them while providing the illusion that they are benefiting investors when that is generally not true (and it isn’t predictable even when they do luck out).
I can’t think of any other industries of that size and supposed legitimacy whose purpose is to offer less (for significant money) than you can literally get by doing essentially nothing at all (investing in straight indexes). There are even mutual funds that consist of a collection of other mutual funds. It’s crazy and anyone with any background in statistics or finance should see right through that.
The main problem (or conspiracy) occurs when your employer signs up with a 401K plan that only offers mutual funds but no index funds as investments. Those are surprisingly common and cheat workers out of billions of dollars a year collectively while making it appear like they are doing them a favor.
About 10 years ago our company solocited our opinions about the mutual fund selections they offered as 401 options and I pushed for Vanguard because of Mr. Bogle and his company’s straightforward strategy. This Frontline was the first time I’d seen him interviewed and it merely reinforced my admiration. Unfortunately, later when we shopped ourselves to a friendly takeover we lost many perks, including those Vanguard vehicles.
Me too, often simply because in comparisson they did outperform the others. The show though drove home with me a real quantification of that cost benefit. I knew it existed, but not to that degree.
I mentioned a few of the discussions. Another was the history of pensions and the reasons 401s transitioned from rare use by heavily compensated execs to ubiquitious use and a pension replacer. Interesting stuff.
Do you mean an amount you must commit to participate in that particular one or that the fund has reached a certain valuation?
Yeah, I’m extremely pleased with the overall performance over time produced by an agressive but diversified portfolio. While the 401 is only part of a much larger strategy, an extra 12% per annum could have done remarkable things. I try and rationalize the loss of that as one of those taxes that hopefully will be of greater benefit to the ageing public overall, many of whom didn’t have the same opportunities as some of us have enjoyed. But you’re right.
Yeah, that sounds high to me too. Schwab manages all my retirement accounts, which invested in 20 or more equity and bond funds, and total fees are .5%.
I’ve had this discussion recently with doper friends offline. Our CPA put us in touch with a very respected FP recently. He came out to the house, we talked about everything from 401s, IRAs and additional market funds to taxes, college, cattle and oil revenue, inheritance, wills, etc. He operates on a flat fee so as to remove any buying and selling CoI that may result. Still, as much as we like him we eventually decided that substantial fee each year would benefit us in the long run more if it remained an investment as opposed to advice. Frontline goes into this too, the variability between and wisdom of employing said planners.
Back in the 90’s (yes! the 20th Century!) when I finally landed a job that had a 401(k) going for it I looked and investigated and… decided not to contribute. For which I received all manner of crap because, ya know, I’m not a financial expert, not particularly good at math, and was just a lowly admin anyhow so what the crap did I know? I should do as my betters told me!
To make a long story short, at the end of my tenure at that company, thanks to crashes and decisions by fund managers and fees (yep, they had 2% and even higher fund fees most of that time) my coworkers who had invested in the company 401(k) offerings had not only lost all the growth but even some of their initial capital, all gone forever. Granted, I hadn’t saved much, either (I made the decision to spend that money elsewhere) but at least I got to enjoy my money, rather than some suit on Wall Street enjoying my money.
Does that mean I think everyone there should have made the same decisions I made? Absolutely not. Looking back I can see where I should have done some things differently. My situation is different than others as well, in that I never had kids and have differently priorities than many other people.
My point is that what the “experts” are selling to the general public isn’t always in their best interests (which is sort of the point of that Frontline, it’s just that I’ve known it for 20+ years). There’s a lot of talk about people taking control of their retirement and so forth but the fact remains most people are NOT financial experts, and many people holding themselves out as financial experts are there to extract money from you and not necessarily build you a real nest egg.
So here I am, no 401(k) - however, I have an honest-to-god pension coming to me. That’s a big difference between me and most in my age bracket. Of course, the suits might still find a way to dick me out of that pension (I need at least another 14 years to collect it, and I’d rather wait longer than that for the better pay out) but right now it’s more solid than either SS or 401(k), which did factor into my not buying into a 401(k) - even if it wasn’t a good decision I’d still have the pension, right? I didn’t like or trust the fund manager I was forced to use by that company, thus I did not buy into it and would have resisted any form of automatic sign up, as people have proposed to “help” the poor, naive worker-bees make the “correct” decision.
Which is not to say I rejected the notion of investing entirely - the spouse and I did have a small investment account (actually, we still do, it’s just been gutted by financial necessity these past 6 very lean years) but it was one WE picked and WE have much more control over than the crap pushed by my former employer.
I’d say the biggest difference was that our investments were not the sort were you were encourage/forced to wait for retirement for withdrawals, we could cash in at any time. Between parents with chronic illnesses and advancing age, and a spouse with a disability, we wanted investments we could access whenever we needed to, not just after some arbitrary age. It’s that whole thing about individual circumstances again. Sure, we would (in theory) lose out on some interest income over time but WTF good are accounts you can’t access during an emergency in your 40’s or 50’s?
Anyhow, here I am pushing 50. I can not add to savings because I am simply not making enough to cover basic expenses some months, much less anything above that (months I can set aside a few dollars I do, which right now covers the months I come up short. Usually). No 401(k), but hoping that SS and my pension hold together.
What’s my real strategy?
Trying to stay as healthy as possible as long as possible. Honestly. Even back in my 30’s I was telling people I intended to work until 70 (greeted with much scoffing). First of all, I can’t imagine sitting around all day doing nothing but watching TV and/or playing World of Warcraft. That’s OK for maybe 3 days then I start looking for more stimulation, years of that would be… intolerable. I might “retire” from one form of work but I’d be doing something for as long I as could. The other factor is, while societal average lifespans are, what, mid70’s here in the US, in my family those who escape heart disease typically live into their mid to late 90’s. I don’t have heart disease, therefore, I stand a better than average risk of living into my 90’s, or even to 100. Note I did not phrase that as a positive. It can be a positive (my extreme elderly relatives reached those ages with mental clarity and good health/physical ability for those ages, generally able to live on their own and handle their own affairs to the very end) but not always. I was always deeply suspicious of most of the calculations for retiring at 65 because they always seem to assume you’ll be dead by 80, 85 at the most. If I retire at 65 I had better be prepared for the next 30, maybe even 40 years of life. If the notion is to retire with 20 years of life left for me that’s more like 75 than 65.
See, if I retire I want to stay retired, not run out of money have to go back to work at 85 older and maybe more feeble than I was at 70. I see this with my dad, who will soon by 84 - he could work, if he had to, but he was a LOT more energetic at 70 than he is now. We’re all glad that he won’t have to work another day in his life (unless for some reason he wants to) and can do whatever the heck he wants with his remaining time. Oh, and dad was still working part time at 70.
Sure, yeah, I could get hit by a bus tomorrow or die of some horrific disease 5 years from now, but what if I don’t. I don’t make plans with the assumption I won’t be here, I make them with the notion I will be here to see the 75th Doctor Who Anniversary special, maybe even the 100th. If I’m wrong, well, my friends and relatives get my stuff early, hope they enjoy it.
TL:DR - My retirement plan is SS, pension, and staying as healthy as possible so if work is necessary I’ll be able to do it. IF my income goes up I’ll save/invest, but under terms I control. (Yes, index funds make much sense to me)
Maybe YOU could be a millionaire doing that, but the SS is there for those who don’t have those mad financial skills, which is the overwhelming majority of people out there. The rules are made for the average person, not the elite. SS provides a floor you can’t fall below no matter what sort of mistake you make or disasters befall you. I find having it preferable to millions of elderly having no income whatsoever which would have a societal burden at least equal to, and probably in excess of, working folks having to pay SS tax.
Haven’t seen it, but will check it out; thanks for the link. I doubt it will cause me to change anything about my investment behavior, though. Wife and I started earning money late (we both were in grad school until ~30), and so started investing late, but we’re now dumping huge portions of our income into investments. we are both contributing the max to our workplace retirement plans, and also an extra chunk into private investments. All told, probably 40% of our pre-tax income is being invested somewhere every year.
Market corrections don’t particularly bother me. Just as it did in 2008-2009, the market will shit its pants from time to time, and then a few years later things will be fine again.
I think most people are relatively innumerate, i.e. they aren’t so good with numbers and math, and so it’s hard for them to see how a number like “two percent” can carve away such a huge portion of their nest egg. But it’s not conjecture, it’s not opinion, the numbers really do work out that way. I’m fortunate to be very good with numbers (Ph.D. in mechanical engineering), so doing this sort of math and laying out spreadsheet simulations of various investment strategies is pretty easy for me.
I knew the basics a long time ago, but about five years ago I read these two books which have been very helpful:
The former book gets pretty advanced by the final chapters, but the first part of the book can be very illuminating for anyone who has trouble grasping how long-term investment works and is intimidated by the risks manifested in the daily ups and downs of the stock market. The examples he provides are accessible to anyone who understands a coin toss, and will help to show why putting your money in stocks for the very long term is far more likely to result in a comfortable retirement than investing in bonds over the same time frame, and also why diversification in uncorrelated assets is important.
The latter book was written by John Bogle, and I’m guessing it will have covered a lot of whatever was discussed in the Frontline piece re: index funds. In short, he advises buying index funds and holding for the long term, and a lot of the book (not a very big book, tho) makes a strong case for doing so.
Re: fee-based financial planners, I’d guess they offer some value for some folks. People who aren’t so good with numbers, people who aren’t solidly aware of the importance of things like dividends, expense ratios, asset correlation, and investment risk, may benefit from talking to a professional about what their goals are so that they can get some good advice on how to get there.
The Frontline title “retirement gamble” is an apt description. There’s no certainty to be had anywhere. You don’t know for sure what the market will do to your nest egg, or how long you’ll live. Maybe you’ll beat the odds and despite your smoking habit, you’ll live well past 80. If your money runs out at 80, you’ve got a major problem.
“A million dollars to retire” is kind of a shot in the dark. You need to consider what you want to do with yourself when you retire. If you want to just take long walks in your neighborhood, then yes, plan on enough for groceries, taxes, insurance, and utilities. If you want to travel a lot and/or live in a nice house on the edge of a golf course, you’re gonna need more. A good strategy for figuring out how big your nest egg really needs to be will consider your total annual budget needs in retirement, and then back out your income from social security and any pension; your nest egg will make up the shortfall, and the rule of thumb seems to be that you don’t want to spend more than 4% of your nest egg in any one year, so your nest egg needs to be 25X that annual shortfall.
Cost of living at retirement should consider inflation: prices 20-30 years from now will be higher than they are now. Estimate 2.5-3% per year, and you’ll probably be safe.
Your required nest egg may or may not be $1M. 4 percent withdrawal per year from that would be $40,000. If that’s happening 25 years from now, and you assume an annual inflation rate of 2.5%, that’s the equivalent of having only $21,575 per year right now. That’s a pretty modest income, and unless it’s coming from a Roth IRA, it’ll be taxable, so you need to factor that in. Toss in Social Security on top of that, and have you got enough to live comfortably? That’s up to you.
Whatever nest egg you decide you need, now you can lay out a spreadsheet that has annual investments between now and retirement time. Pick a reasonable annual rate of return (6-7%?), and pick an annual investment amount, pick a retirement date (55? 65? 70?) and see how big a nest egg you end up with on retirement day. Too small? Increase your annual investment until the retirement nest egg is the right size. Now you know how much you need to save every year to meet your retirement goals.
Check out the book at my first link, and you’ll see what your retirement nest egg ends up being if you put it in mason jars or mattresses for the next 20-40 years. It’s not good. Over the long haul, just about any mutual fund will beat mason jars - but you’re correct in that investing in an index fund is probably a better bet than any given managed fund. If you’re going to invest in a managed fund, it pays to shop around for one with a low expense ratio.
Who is the advice for? Anyone who wants to invest for the long haul. If your time horizon is 20-40 years, it doesn’t matter if you’re putting in $500 per year or $50,000 per year, the multiplier is the same.
What are they supposed to need a nest egg for? Well, Social Security distributions aren’t very large, especially if you haven’t been a big earner during your working years. It’ll barely be enough to keep the wolves away. If you want to eat something besides rice and beans every day, you’ll need a nest egg. Also, Medicare doesn’t cover everything; you’ll want supplemental insurance, and although that’s less than full-coverage insurance, it’s not free.