I often get asked – “How do I begin planning my retirement?”

Great question. With just a handful of details, we can get right to business. First, we want to understand how much of your retirement income we can count on – guaranteed to show up in your bank account regardless of the stock market – like pensions, social security or income annuities. Then we need to figure out the difference between what’s coming in and what you need to live on. It’s important at this stage to separate what you need to live on versus what you want to live on. The current cost of living, essentially what you make versus what you save, I think, is the easiest way to get started rather than doing a line by line budget. We’ll discuss this more in depth later. The other thing we like to look at right up front is to understand what steps you have taken to protect yourself against these five particular things? Market risk, longevity, inflation, taxes and healthcare/long-term care. These are big risks – any one of them can derail an otherwise successful retirement plan. The other element is to find out if there has been any planning done as to when to draw Social Security benefits.

Next, there are four questions that we use to help someone understand how much income they’ll need per month – what you’ll need to draw from your investments each month in the first year that you’re retired to cover any shortfall from what you may already be receiving from a pension or social security. Ballpark, what’s the value of the investments today? How many years until you retire? And the last question, without killing yourself and having no fun, considering other things you have to buy or want to buy, over that period, what amount of money can you commit to adding to your investments, each and every one of those months? Keep in mind this all happens in about a 20 minute exchange over the phone or face-to-face. We try to keep this simple.

So, with those four variables, we can determine pretty quickly whether you are on track or not and if so, go to work designing an investment strategy to get you there. If not, we may need work through reassessing goals and objectives to help you understand what’s realistically possible. We also want to make sure growth rates and expectations are reasonable within the time horizon and the risk you are willing to accept.

The other questions I like to review are; is there anything about your investments right now that you don’t understand? Anything about the investments that bothers you? Anything about the investments right now that you think could be done better? Do you know exactly what your current investment plan costs? And if you were able to do better with the investments, is there anything that would change in your life? Would you give more to charity? Help family? Do more traveling? Or maybe even consider leaving the workforce earlier? And lastly, how often to you hear from your current advisor – is there a communication plan in place?

From there, it’s about setting up a retirement income strategy built around reducing risk in the face of uncontrollable and the unpredictable uncertainty all retirees will face. One of the biggest of those in my opinion is sequence of return risk – or what the market does and in what order. More on this specific risk will be discussed in a future post. The other biggie is longevity and it’s a risk multiplier. It increases the chances of everything else. The more money you’ll need, you may have higher healthcare costs, and inflation can play a bigger role. Inflation is the silent thief. Two percent annual inflation doesn’t sound like much, but it doubles the cost over a twenty-year period. Healthcare expenses, long-term care, being forced into retirement earlier than you expect. You may run into some reemployment risk if your skill set is not transferrable to other fields of employment unexpected financial responsibility. We’re seeing a lot of our clients caring for either adult children or aging parents and that’s having a profound effect on their retirement.

Here, the coaching kicks in as we try and help you avoid some of the more common retirement planning mistakes.

Retirement Planning Mistakes

Mistake number one, misguided investment philosophy or performance expectations, using improper diversification, choosing investments based on past performance, not understanding risk tolerance versus your capacity to take risk and investing inconsistently and monitoring improperly. The solution is to evaluate your individual situation, set review goals, objectives, time horizons, determine your risk tolerance and allocate the portfolio accordingly.

Mistake number two is the retirement distribution plan. Not accessing accounts in the proper order or understanding the placement of these assets and the impact of taxes. Unaware of 401K distribution options. Separation from service or in-service distributions. Taking distributions in a highly taxable year or in a single calendar year versus spreading them out. We run into that quite a bit and unfamiliarity with IRS rules, particular rule 72T. The solution there would be to review the 401K plan to determine the after-tax basis, if any and understanding withdrawal options. Design a distribution plan that provides or pays a level monthly income and be ready to adjust. Be flexible. If the market’s down or in bad shape, having the flexibility to trim back your distributions in those years can go a long way. And if you do need to deploy Rule 72T and take distributions from your retirement accounts prior to turning 59-1/2, follow the rules and make sure you don’t make any mistakes.

Mistake number three would be emotions, procrastination and regret. The idea that the planning will take care of itself. Afraid of the numbers. Hard to focus on goals with no strategy. Planning makes for an easier and less stressful transition into retirement and many put it off because retirement seems so far away. We want to highlight the importance of time in the markets and not about precision, it’s about direction. The solution here is to set aside an hour or two every year for financial planning. That’s really all that needs to be done. Facing the numbers and then being accountable will help you make better decisions and the strategy can be laid out in advance. You’ll sleep better with a plan in place. Meeting with a financial planner and running some what-if scenarios, stress testing your options – that’s what we can help you do. Too many people are rolling the dice on retirement; ignoring financial planning, taking far too much risk, and many believe that the biggest risk is the market when, more often than not, it’s their behavior, it’s the excessive distributions because there is no emergency fund set aside. It’s not understanding risk tolerance or your capacity to take it; this can lead to either investing too conservatively or too aggressively, rather than having these things tied to the goals and objectives of a plan and the risks you’ll encounter over your retirement years.

Number four – market timing. The idea of getting in and out of the markets whether that’s based on news, predictions or hunches, moon phases, whatever. We know long-term this behavior doesn’t reduce risk. If anything, it increases it. Risk is reduced through proper diversification. Most pensions, endowments, foundations and professional money managers make minor adjustments from time to time. They do not manage money by moving 100 percent in and out of the markets or in and out of different types of investments based on newspaper headlines or market related tv shows.

And finally, number five. I can’t leave out the classic behavioral finance mistakes. Overreaction and availability bias, focusing on short-term performance, following the herd, confirmation bias where you believe something, so the things that you look for, tend to reinforce that. And then there’s anchoring – that’s holding on to an investment because it was worth some particular amount at one point. That amount has changed now and your belief is that, “Well, hey, this stock used to be worth $100 and now that it’s worth 25, so I’m going to hang onto it because I think the value will come back,” and that can get investors in trouble. You know, not knowing when to sell and having a process in place, whether that’s a disaster plan for a down market or just when they should take some profit off the table, can cause problems.

Keys To Success

1. Employ diversification to help reduce risk and that doesn’t mean just different areas of the market, but literally different types of investments to tackle the different types of risks an investor will run into. Stay tuned for a future post specifically geared towards matching investment strategy to the specific risks most retirees will encounter – I believe this is the best way to design a retirement income portfolio.
2. Seek lower volatility in your portfolio to manage risk and hopefully enhance returns, along with dividend income.
3. Take a global approach in how you invest to help reduce risk and deploy different elements in the portfolios including asset class investing, some pure index investing, along with some actively managed portfolios, equally weighted and momentum exposure.
4. Focus on building these investment strategies around lower operating expenses, lower turnover – design an efficient portfolio.
5. Remember that investing is best done as a long-term pursuit; there are no silver bullets. By investing in a portfolio that is matched to specific risks and designed for multiple outcomes you can increase your chances of success.

Ultimately, with attention paid to good design, we’ve seen better investment outcomes for clients and as our process has evolved the focus has shifted more towards helping put you in touch with what the money is for and what you want retirement to look like.

Until next time…