The decision to go from working to fully retired is a big one, potentially fraught with uncertainty. And the last thing anyone wants is to go broke in retirement.
After all, you have to go from making, spending, and saving money to not making it all and just spending it.
So where does the money come from, if not from working?
Even William Sharpe, the Stanford University professor who won the 1990 Nobel Prize in economics, found baffling the issue of estimating post-employment income.
“It’s really nasty. It’s the nastiest, hardest problem I’ve ever looked at,” Sharpe once told a Bloomberg News interviewer. “I can’t say I’ve found some magic solution, because I haven’t.”
He did solve it, by the way. The answer, while complex and very much a mathematically-inclined discussion, is free to anyone through this online e-book.
Since you are not likely to read this entire online book, let’s cut to the chase. In Chapter 21 of the book Sharpe flatly offers this advice: Hire a registered investment advisor (RIA), someone who must by law act in your interest first, ahead of his or her own or the interest of an employer.
Fiduciary financial management is a crucial piece of the puzzle. Not all advisors are fiduciaries. Certified Financial Planners™ are fiduciaries, the same as RIA firms and their employees.
Other advisors, such as broker dealers and insurance companies representatives, are held to a far less rigorous standard. If they fail to act in your interest first, their career is not at risk.
If you’re not sure if your advisor is a fiduciary, go ahead and ask them. Any reply short of “Yes I am” is a dodge.
So let’s say you’re retirement-minded and trying to puzzle through what could go wrong.
First of all, remember the long-term “upward bias” in the investment markets. Bull markets are far more common and longer-lasting than bear markets. Stay prudent but be invested to keep ahead.
So what could cause you to go broke in retirement? Here are five real risks you run:
Retirement buster No. 1: High investment costs
What gets by many people is that the fees they get charged to invest are a constant and powerful drag on returns.
As Sharpe explained, the surest way to improve on a long-term investment return is to get it at a lower cost so that more of your invested money is growing for you.
Retirement buster No. 2: Imprudent risk-taking
Broadly speaking, it’s important to reduce the amount of risk you take in your investment holdings as you age.
For a lot of people, that feels like flipping a switch from stock to bonds at age 65, but the reality is more complex. Because of inflation, even “safe” fixed-income investments can be risky.
You might live longer than you expect. Owning some measure of stocks well into retirement to hedge inflation can be an important longevity strategy, but you must ensure you are well diversified within this category.
Retirement buster No. 3: Unplanned spending
Having a budget is key. Not just to project your needs accurately but also to know if a splurge trip or paying for a wedding or college is a feasible idea or a huge money pothole in your future.
A written financial plan will help you map out your ability to spend outside the parameters of your month-to-month needs.
Retirement buster No. 4: Uncovered Health Expenses
Everyone gets old. It beats the alternative! So understanding your financial risk from future medical expenses is important.
Proper insurance coverage as part of a financial plan can be a big help when deployed in conjunction with a carefully managed investment portfolio. Be mindful of private medical costs (if retiring early), and make sure you understand your Medicare supplemental insurance and prescription drug costs.
Retirement buster No. 5: ‘Winging it’
Retirement planning is complex, as is anything related to trying to predict the future. There are plenty of online calculators that can give you the contours of a reasonable plan, but that’s still not a real financial plan.
A true plan starts off with a precise, personalized set of assumptions about your goals and aspirations. It is qualitative as well as quantitative.
Then it gets updated from time to time to take into account how your needs and even your attitudes might change.
Avoiding these five retirement busters is a matter of discipline, but like any good discipline it starts with small steps that build on and reinforce each other. Habits form and the need for discipline tends to fade in time. And we’ve found that crafting a long-term financial plan, ideally developed in partnership with a financial planner, helps add structure and guide posts to the achievement of goals.
All that’s left is good results.
If you are interested in having a conversation with one of our financial advisors and learn more about where you stand on your retirement click here.