Finance Your Liberty Rotating Header Image

retirement

Want to Invest Smart? Keep it Simple

It doesn’t take an MBA to reach your financial goals. We show you how you can make money the easy way.
Who doesn’t want to be the next Warren Buffett? You could start by clearing  your schedule, buying some highlighters, burying your nose in annual reports and picking up the 800-page volume Security Analysis. Of course, that’s just for starters. Want to be simply a great investor? Then learn to invest simply.

The real secret to successful investing is that it is not actually all that complicated. Most of the jargon and hype doesn’t matter. You don’t really need to know what the difference is between a credit card and a credit-default swap, or between a convertible bond and a convertible sofa, in order to manage your own money. Common sense can take you further than an MBA.

Many investors sabotage their own results when they start trying to get fancy. “When investors start tinkering, they tend to second guess and buy things after they’ve gone up or sell things after they’ve  already gone down, which is a sloppy way to manage a portfolio,” says David Swensen, manager of Yale University’s $19.4 billion endowment and the author of Unconventional Success: A Fundamental Approach to Personal Investment.  Mutual fund investors, for example, have cost themselves an average of two percentage points per year over the last ten years by buying high and selling low, according to Morningstar fund tracker. Maybe we could mend our ways if we were able to see more clearly the evidence of how much our follies cost. But the more complex the investing , the more cluttered the accounts, and it becomes difficult to tell what your actual return is when your portfolio is something of a mess..

One of the few things that an investor can predict up front are costs. “There is only one thing that I am absolutely sure of about investing: The lower the fees that I pay to some purveyor of an investment service, the more there will be for me,” says Burton Malkiel, professor of economics at Princeton University, author of A Random Walk Down Wall Street.

Consider this, for example. Let’s suppose you’re preparing for your retirement by saving $10,000 a year for the next three decades. If we assume that your portfolio averages an annual return of 8% before fees, your retirement nest egg would be a bit more than $1 million – if your costs totaled only 1% a year. But if you had to pay 2% a year, you’d end up with $838,000. So you see, paying just one percentage point less per year translates into 21% more money at retirement time.

Don’t let this mistake ruin your retirement

Recently, while enjoying a holiday party, a friend was talking to me about her plans for retirement, in hopes, naturally, of getting some free advice. I’m always happy to help out my friends, but the advice I gave was not quite what she had expected to hear.

 Helen is a single nurse in her mid-60s. She said to me, “I have $300,000 in my 403(b) retirement account, and I have to have an annual income of around $25,000 a year in addition to my Social Security. I ought to be OK if I take out that amount every year, shouldn’t I?”

 Doing the arithmetic in my head, I quickly realized that she would be withdrawing from her retirement account at a rate of over eight percent per year. What was my response? “At the rate you’re proposing, you will probably run out of money during your lifetime, most likely when you reach your 80’s. I understand you’re healthy, and that there is a very good chance you might even live well into your 90s. You will be better off by beginning with a more moderate withdrawal rate of only four percent per year, and then, down the road, if your investments do well you could increase your withdrawals at that time. This would mean you should start out by withdrawing only $12,000 per year.”

 And her response? “No way I can live on $12,000 per year!”

 I went on to say, “If you live into your 80s and deplete your retirement savings, then you will end up living on just your Social Security. So you must consider your retirement account as a kind of generator of lifetime retirement income and conclude how much income will be reasonable to expect from your savings.” I encouraged her to learn more and suggested she check her local library for books on managing her own retirement income.

 Helen’s story, unfortunately, is all too typical of the kind of financial “planning” so many people do for their retirement years. They generally estimate the amount of money they should need each year for total living expenses, over and above their Social Security income. If theretirement savings they have put aside are somewhat bigger than this annual amount, then they believe they will be fine.

 

Treasury Inflation Protected Securities

Last week we promised you a single, and here it is.  This investment is a back-up for the fixed-income section of your portfolio, the portion that is traditionally exists to reduce volitility, which you need more and more of the closer you get to retirement.   When you’re 28, the 2008 market crash was a blip on the radar, but when you’re 64, it’s devestating.   

But that reduction in volitility comes at a price.   Traditionally, your fixed-income securities carry a significant portion of inflation risk in that if you receive a 2% return over the course of a year, but that year brought with it 3% inflation, your investment actually went down in value.

But not with Treasury Inflation Protected Securities, or TIPS.

TIPS are a type of fixed-income investment that carry two types of income.  The first, the normal interest rate you expect to find with any traditional bond.  The second, and key type, is that the principal value of the bond increases with inflation based on the consumer price index.

For example, let’s say you bought a $10,000 bond with a 2% interest rate.   Now, for the sake of easy math, let’s say that inflation had a early-80s kind of spike and came in at 10%.   The value of your TIPS increases from $10,000 to $11,000 to compensate for the loss of dollar value (something you wouldn’t get with a traditional security).  Then, you get your interest rate paid out on that amount.  In this case, that would be $22, instead of the $20 you would have gotten off of the $10,000 value.

They can be purchased directly from the Treasury, a broker, or through a mutual fund or ETF.

It doesn’t offer much from the perspective portfolio growth, but it is the only investment gauranteed by the US gov’t to provide you with a post-inflation positive return.  And for those of us who need to be dialling down the risk in their portfolios, that’s a great place to start.

Making Retirement Work Tip #4: Don’t Get Attached to “Stuff”.

One thing I learned about moving to Mexico was how little I actually needed to happily live life. When I came down here two years ago, I came with clothes and a laptop. I rented a furnished apartment, hung up my clothes, and voila! Home. I have since got a comfortable office chair and a monitor for my laptop, but that’s really about it in 2 years. When I return north, I find myself in awe of how much useless stuff I have squirrelled away that I don’t think about at all while I’m gone.

All that stuff was bought somewhere, sometime. And the vast majority of it, I now realize, was totally unnecessary.

Decorative samurai swords for my wall are not making me happy. The just make points with people who judge others based on the stuff on their walls. (which is who, exactly?)  A fancy glass-topped kitchen table does not make my life more fun. My girlfriend makes me happier. Shooting the shit with my friends while taste testing a bunch of foreign beers from the local import store makes my life more fun.

Cheaper, too.

It pays to identify what are things that improve your enjoyment of life, and things that either make us less happy or don’t impact it one way or the other. And if it’s not a necessity, and it’s not increasing our enjoyment of life… what’s the point of buying it? That simple shift in attitude alone can save hundreds a month.

Making Retirement Work Tip #3: Get Outta Dodge!

Let’s face it, most of the ”Developed, Western” world is a pretty expensive place to live. Sure, it’s balanced out by some of the highest wage rates in the world, but what if you’re not taking in the wages anymore? Are you still living in a place that requires you to pay out the heightened expenses?

I’ve had the opportunity to experience and take advantage of this first hand. As an aspiring poker pro, I make money every month, but not nearly enough to live on. (Hence the word “aspiring”.) But since that doesn’t actually require me to live anywhere in particular, I decided to move somewhere a lot warmer and a lot cheaper, so I moved to Mexico.

So I put my small town house up for rent and used the income to rent a 800 sqft apartment in a gated community. My expenses are only somewhere around $1100 a month. I have friends here that aren’t quite as rambuncious as I am (read: cheap drunks) that live fulfilling lives on half that.

Not to say that you can follow my lead if you’re like most people and working a job that requires your physical prescence… but when you stop? Think about it. And if you’re not tied down to one place already…. what are you waiting for?

Imagine this. You’re 65. You want out of the rat race, but you only have 300k in the bank. For all you know, you might live another 30 years, and assuming you spend 20k a year (which is a pittance in most parts of America), that’s only 15 years worth of living. Before inflation. But living in Mexico or someplace else that only requires 7-10k a year? Now things are looking up!

But aren’t developing nations dangerous?   Well, it depends on what you view as dangerous.  New Orleans averages a murder a day for a little over a million people.   The town where I live that’s 1/10th the size?  3 last year, I believe.  And that’s in “the drug war”.  Plus, because public transit is so cheap, (a bus is 40 cents, a taxi ride 3 dollars) I don’t even need a car, and the speed limit in town is less than 30 mph.  Which virtually eliminates my odds of getting in a deadly car accident, which statistically speaking is waaaaaaay more likely than getting killed in an act of violence.

There are sizeable ex-patriate communities all over the world.  And since ex-pats pick where they live, as opposed to most locals that just grow up where they were born, they tend not to pick places where street crime (the only kind that effects you unless you plan on joining a gang or something) is rampant.

So go ahead, do a little research. Take a trip or two, check it out.  Explore.  Not only will you save some cash, you’ll broaden your mind.