Thursday, May 5, 2011
The most powerful income tool you’ll find
We’re living longer. In fact according to the Centers for Disease Control if you are a 65-year-old male, you can expect to live another 17 years … 19 more if you are a female. That’s the good news. The not-so-good news is that your retirement next egg might not last as long as you do. There are several theories on how much you could safely withdraw from your investments and have a decent chance of not running out of money during retirement. Probably the most common is the 4 percent rule. This assumes your portfolio is split 60/40 among stocks and bonds with annual returns of 7-8 percent. It also assumes your portfolio will fluctuate 10 percent a year and we’ll have 3 percent inflation. Although this may sound logical, there are a few potential flaws … First, is the 7-8 percent return. Since 12/30/27, the S&P 500 has averaged a 5.35 percent return. For the past 10 years, it’s only 2.66 percent. Five years is 2.95 percent. Bonds? Well, the Barclays Capital Aggregate Bond Index, which is often used to represent investment grade bonds trading in the U.S., averaged 6.44 percent over the last 5 years. You might happen to hitch onto a hot-shot fund manager, or you might be lucky enough to pick a few good stocks or bonds on your own. But again, that would be an exception, which brings me to the second flaw … Hoping the markets will go up and down by only 10 percent is a pretty rosy prediction. The Dow dropped 22.6 percent on "Black Monday" October 19, 1987. And the Nasdaq was down over 60 percent after the tech blow up in 2000 followed by the September 11 terrorist attacks. Then look at 2008 after the housing bubble exploded ... For the year, the Dow fell 33.8 percent, its worst drubbing since 1931 and its third-worst year ever. The S&P 500 fell 38.6 percent, its worst performance since 1937 and third-worst loss. The Nasdaq lost 40.5 percent, its worst year ever. Granted, many investors who hung in there have recovered their losses. Some are substantially ahead, particularly those who continued to invest month after month while prices tumbled. But there lies the problem … Most people panicked. They bought high and sold low. I’ve seen this first hand with clients who when they’re initially making an investment say they can handle losses. Yet when they’re looking at their statements and see a 20 or 30 percent loss, they don’t have the stomach for it. They want out. Now for my final point … the 3 percent inflation. Since 1913, inflation has run about 3.4 percent a year. However, our country is facing much different challenges than in the past. Out of control government spending, non-stop entitlement programs and a money printing machine that is running 24/7. Just to name a few. This tells me that inflation is bound to go up significantly over the foreseeable future. And counting on a meager 3 percent rate is just plain dangerous. Therefore, I suggest you take a look at an income annuity as part of your retirement planning. Of course, there are tradeoffs. For instance, you give up control of your money. And to get the maximum income, your survivors are left with nothing. What’s more the income generally does not go up each year. But no other tool provides a similar guarantee of income for as long as you live. Now I’m not saying you should put all of your next egg in an income annuity, especially now with interest rates so low. Yet you might consider staggering multiple smaller buys over several years in case rates go up. That way you would always have money coming in each month to help pay ongoing expenses, such as a mortgage, rent or even to help fund your travel plans. The alternative? Roll the dice and take your chances. You might win, or you might end up broke and dependent on others for your survival. Best wishes, George P.S. I’m now on Twitter. Follow me at http://twitter.com/efinancialwrite for frequent updates, personal insights and observations on how to have a healthly retirement. If you don’t have a Twitter account, sign up today at http://www.twitter.com/signup and then click on the ‘Follow’ button from http://twitter.com/efinancialwrite to receive updates on either your cell phone or Twitter page.