3 Ideas to Plan For Lower Returns

3 Ideas to Help Plan for Lower Returns

What we earn on our nest egg is a key component to our future plans. Over the past month, we talked about the potential impact of both lower bond and stock returns. What can you do to prepare for this? Today we’ll share 3 ideas to help you plan for lower future investment returns.

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All month long, we’ve talked about the possibility of lower future returns for both stocks and bonds.  

What happens if future returns are less than historical averages? Bond yields indicate the future results from those investments could be well below their averages. And many “experts” believe future stock returns could also be less. This combination creates some significant challenges as you head into retirement.

Here are 3 things you can do to plan for lower future returns.

1. Delay Your Retirement

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Delaying your retirement improves your Social Security and pension benefits (if you will receive a pension). This works three different ways.  It shrinks the discounts you face for early retirement.  It increases your primary benefit. Or, with Social Security, you can receive delayed retirement credits. 

Waiting to retire also helps solve a problem with health insurance in retirement.  You are eligible to receive Medicare at age 65.  This means you won’t have to buy an expensive individual health insurance policy. 

Delaying retirement also allows you to reduce debt, save more, and benefit from compounded returns.

2. Monitor Your Spending

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In my experience, the primary reason people run out of money in retirement is overspending. The more you withdraw from your nest egg, the higher the chance you deplete your savings. Take a good look at your retirement budget. Try to find expenses or costs you can eliminate.

3 ideas to help plan for lower returns

3. Own More Stocks

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Investing involves a trade off. Trying to earn more can mean the short-term shocks are more severe. But, it may be necessary to consider an allocation that provides more opportunities for long-term growth. This may be hard to do, considering we haven’t completely recovered from a pretty steep drop. But in the long-run, the risks could be worth it, even if it is for a short period of time.

Be Flexible

It is important to be flexible.  The plans you created may need to be adjusted as the world around us changes.  None of us know what future returns will be.  But we need to consider what happens if future returns are lower.  Making good decisions now can help improve your chances for longer term success.  And, if things turn out better than expected, everything will be fine.

3 ideas to help plan for lower returns
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Neal Watson is a Certified Financial Planner™ Professional and a Financial Advisor with Fleming Watson Financial Advisors.    He specializes in helping hard working, middle class families plan for retirement.

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Is the 4 Percent Rule Dead?

Is the 4 Percent Rule Dead?

Over the past two weeks, we’ve discussed expected future returns for both stocks and bonds. Several experts feel the future results will be much lower than historical averages. So that makes us wonder, “Is the 4 percent rule dead?”

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Lower expected future returns for both stocks and bonds can affect your retirement. Many “experts” expect stocks to produce below-average returns over the next decade. They forecast somewhere in the neighborhood of 6.5% per year. They also expect lower returns from bonds—somewhere between 1 and 2 % per year.

Lower Future Returns and the 4 Percent Rule

If these lower returns happen, it can create a major challenge for retirees. If these predictions hold, a well-balanced portfolio would earn somewhere between 4% and 5% per year.

Is the 4 percent rule dead

For the past 20 years or so, we’ve been big believers in the 4% rule for generating retirement income. This rules says you can take 4% of your retirement savings as income. So if you have a $500,000 nest egg, that translates to $20,000 per year or $1,666 per month.

Why Do We Believe in The 4 Percent Rule?

We use this guideline because it reduces the risk of running out of money during your lifetime. This has been back-tested during some of the biggest bear markets, and it has a high rate of success.

When you use historical return data, you can see why. Historical data shows a 60% stock-40% bond portfolio should grow by about 7% per year. So if you only take 4%, you would expect your account to grow by 3% per year. That’s enough to help your income grow each year to maintain your purchasing power.

What if Returns are Lower?

But what happens if the experts are right? What if those returns are less than average? Does the 4% rule still work?

In theory, if you earn at least 4% per year, you can take that much income and still maintain your principal. But there are a couple of things that come to mind. First, your odds of success will decrease a little. And, your ability to grow your principal to grow your income is also limited.

The second thing: what if you need to take more than 4% from your savings?  A lower return environment going forward means you will increase the risk of running out of money during your lifetime.

Balancing Risk and Reward

Financial planners always talk about balancing risks and rewards. And the amount of income you take from your retirement savings is a perfect example. The 4% rule is simply a guideline to help you think about that risk. And even with lower returns expected in the future, it still has merit.

No matter what future returns are, one thing remains true. The higher your withdrawal rate, the more you risk running out of money. If you are unsure of how this impacts you, talk to a financial planner.

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Things continue to improve…

Things continue to improve

The pandemic shut down our economy earlier this year. Now America is slowly reopening. Here are some charts and data showing that things continue to improve.

From Liz Ann Sonders of Charles Scwaab…

From economist, Scott Grannis….

Airline passengers

things are continuing to imrpove

Gasoline Sales

things are cointuing to improve &nbsp

Service Sector Activity

things continue to improve Scott Grannis writes an outstanding blog, he uses a very data driven approach.  Check it out here.

From Economist Brian Wesbury of First Trust Portfolios…

 

Retail sales and food services

 
things are starting to improve

 

 

Industrial Production and Manufacturing Output

things are starting to improve

Mr. Wesbury also believes the recession is over. Read more here.

From Thomas Lee of fundstrat.com

And although this tweet is a little older, I still thought this was very interesting.      

There are still risks...

There are still risks ahead.  The pandemic isn’t over, and the risk of a second wave of infections remains a threat.  But every now and then, it is important to look past the bad news that dominates the media.  While we aren’t back to normal, things continue to improve.

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How Lower Interest Rates Affect Your Retirement

How Lower Interest Rates Affect Your Retirement

Lower interest rates create some obvious problems for retirees. Things like savings accounts and CD’s just aren’t earning much. But there is a longer-term problem with these low yields. Today, I’ll discuss how lower interest rates affect your retirement.

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How Lower Interest Rates Affect your Retirement

For many, bonds are a significant part of your retirement nest egg. And, in my mind, there are three reasons to use them.

Reason 1: Less Volatility

Bonds reduce volatility. Think about what happened in March. The stock market fell over 30%. If you were 100% invested in equities, your account went down a lot! If you had 40% in bonds, the drop was much smaller.

Reason 2: A Place to Invest Your Future Income

Bonds give you a source of funds to generate your income. Selling stocks when they are down 35% to get your monthly check isn’t ideal. Putting your future income in bonds solves this problem.

Reason 3: A Way to Rebalance

Bonds give you a source of funds to buy stocks at better prices. Let’s say we get another big drop in the stock market in the next few months. I’m not saying we will, but if we do, you have a source of funds to buy stocks at those lower prices.

How Lower Interest Rates Affect Retirement
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Lower Risk, Less Return

Owning bonds will reduce your future long-term returns. They just don’t generate the results stocks do. For example, the Vanguard Total Stock Market Index fund has averaged just over 9% per year over the past 15 years.  The Vanguard Total Bond Market Index fund has averaged 4.3% over the same time frame.  Adding more bonds reduces the impact of a bear market.  But it also reduces your future returns.

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Low Yields Translate to Lower Future Returns

Last week, we talked about lower expected returns for stocks and how that impacts your retirement.   The current low yield environment also means we should expect lower future returns for bonds too.

In fact, Vanguard recently said we should expect bonds to generate returns of about 1-2% per year over the next decade. 

So if we expect stock market returns of 6.5% and bond returns of 2% here’s what happens.

This is a real challenge when you need your savings to create income and grow to keep pace with inflation.

Lower interest rates and yields could have a major impact on your retirement plans.  It’s worth having a conversation with a financial planner to see how it could affect you.

What do you think?  Add your comments below!

Lower Interest Rates Affect Retirement

 

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What if Future Stock Returns Are Lower?

What If Future Stock Returns Are Lower?

How many times have you heard this, “The long term average return of the stock market is 10% per year”?  What if future returns for the stock market are less than average?  How would that impact your retirement?

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What if....

One of the things we all set out to do is use our retirement savings to create income. That income has to last as long as we do, and it needs to grow over time to keep up with inflation. Historically speaking, owning stocks has been the best way to help us do that.

Future returns using historical data

A lot of people create retirement projections using historical return data. They might use 10% for stocks and 4% or so for bonds. In that scenario, you should expect an account with 60% stocks and 40% bonds to earn 7.6% per year. A 50/50 mix should earn 7%. A more conservative 40% stock, 60% bond mix should earn 6.4%.

What if future stock returns are lower?

But what if over the next decade, stock returns were well below historical averages? Say only 6.5%? How does that impact how you plan?

Now that 60% stock, 40% bond portfolio would only have an expected 5.5% return. The 50/50 portfolio projects to earn 5.25% and the 40% stock 60% bond mix earns 5%.

That changes things quite a bit when you start looking at the income you can take and the risks of running out of money.

How likely are lower future returns?

Companies like Charles Schwab, BlackRock, and Vanguard all believe future stock returns will be below the historical averages.

Schwab believes future stock market returns over the next decade will be around 6.3%. Vanguard believes the returns will be similar at 6.5%. BlackRock projects 6.9%. 

Of course, they could all be wrong. Returns from stocks could be closer to the long-term numbers. But, you need to prepare for the possibility they are correct. And you also have to realize their guess about the future could also be too optimistic.

By and large, I’m an optimist. I expect stocks to act like stocks. But as a planner, it is important to prepared for something like this, especially if you are nearing retirement or just recently retired.

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Ask A CFP: Are You Pessimistic or Optimistic?

Ask A CFP® Pro: Are You Pessimistic or Optimistic?

Today is the first episode of our Ask a CFP series.  Each month we will answer your questions about money, investing, and retirement.  The big question today: “Are you pessimistic or optimistic about where we are going?”

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Today's Questions

Here are the questions we answer on today’s show:

  1.  Are airline stocks a good buy? What’s the best way to invest?
  2.  My employer stopped matching my 401(k), should I also stop my contributions?
  3. Since my IRA has decreased in value, is now a good time to convert it to a Roth IRA?
  4. With businesses starting to reopen, is now a good time to buy stocks?
  5. Do you think we’ve seen the end of the bear market? Are you pessimistic or optimistic about where we are going?

What is your pressing question?

Do you have a question about money, investing or retirement.  Here is your chance to get straight answers from a Certified Financial Planner­™ Pro.  Click on the button to send us your questions.  We’ll answer it on an upcoming episode of our Ask a CFP show.  

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You can also ask your question in the comments section below!

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Are Card Rewards Worth It?

Are Credit Card Rewards Worth It?

Are credit card rewards such as cash back or travel perks worth it? Should you use multiple credit cards to get better rewards? 

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Are Credit Card Rewards WOrth it

On May 9th, the Marietta Times ran an article written by NerdWallet. “Why Family Loyalty Shouldn’t Apply to Your Credit Cards.”  It encourages people to shop for things like cash back perks and travel rewards. It also encourages people to consider using multiple cards to maximize those rewards.

Are The Rewards Worth It?

Are credit card rewards worth it? You know those frequent flyer miles or cash rebates for your purchases. For some people, the answer is yes. I’ve personally benefited from using travel rewards on my credit card purchases.

But there is a caveat. The rewards are only worth it if you pay your full balance each month.

The Basic Math…

You buy $100 worth of groceries. Your card gives you 2% cash back, so you get a $2 reward. If you pay your bill, it’s $2 in your pocket. But if you only make the minimum $10 payment, you’ll spend more in interest than your perks are worth. And that will happen in two months or fewer too

Are Card Rewards Worth It?

Should You Use Multiple Cards?

I think this adds more complexity than it’s worth. You have to keep track of more things, make more payments, and stay more organized. From my experience, simple is better, cleaner, and reduces mistakes.

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The Verdict: Good for Some, But Not Everyone

You have to be very careful with these so-called perks. They can be a perverse incentive. They can give you the rationalization to use your credit card, even if you can’t pay the balance each month. And they can cause you to spend more than if you were using cash or a debit card.

Are the perks and rewards worth it? For some, yes. But you must do it responsibly. If you can’t pay for all your purchases each month, the rewards don’t matter.

Worth it Credit Card Rewards
Card Rewards Worth It
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3 Questions To Help Evaluate Your Cash Flow

3 Questions to Help You Evaluate Your Cash Flow

The COVID-19 Pandemic forced a lot of major changes to our lives. IT has also created a unique opportunity to gauge how we spend money. Today, we’ll pose three questions to help you evaluate your cash flow.

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Questions To help Evaluate Your Cash Flow
3 Questions to Evaluate Your Cash Flow

A week ago, we talked about the importance of building your financial safety net. One of the first steps was to take a hard look at your spending. Today, we have three questions to help you evaluate your cash flow.

Question 1

Evaluate Your Cash flow

The things you really enjoyed—the activities that added value to your life, you’ll find a way to do them again. Eliminating the ones you don’t miss and the costs associated with them, can help you get your budget back on track.

Question 2

Questions to Help Evaluate Cash Flow

Was it that fancy cup of coffee, or breakfast sandwich on the way to work? Could it be something bigger? If you haven’t missed it when you were forced to stop buying it, you don’t have to start just because you can. You may find that many of those little things can add up to a lot of money each month.

Question 3

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When things get tight, we start to look at the details. It’s easy to identify the line-items on your bank statement that cause you stress. It could be the amount you spend eating out. Or, that pesky gym membership you don’t need or use. And then there are all those subscriptions. It could be something even bigger like a car payment.

Weigh the stress of those expenses now that times are tight to see the true value they provide to your life. If those two things are “out of balance,” take some time to clean them up.

Remember, there are no wrong answers to those three questions.

This pandemic forced us to alter our spending habits. In the process, it revealed what was essential, important, and truly valuable to our lives. And that can help us make better choices about money going forward. It can help us build our financial safety net and save for our future.

evaluate your cash flow questions
evaluate your cash flow questions
Questions to Evaluate Your Cash Flow

 

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Creating Your Financial Safety Net

Creating Your Financial Safety Net

As America begins to reopen, we can set our sights on what we need to do to get our financial situation back in order. What should be at the top of your list? In my mind, creating your financial safety net should be a high priority.

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Create Your Financial Safety Net

Some Disturbing Numbers

America is starting to reopen. Hopefully that means we will all be able to get back to work soon and begin your own financial recovery. But as you begin to focus on what you need to do, what should be your top priority?

The best place to start: your financial safety net. By this we mean focus on building a cash reserve and eliminating debt.

When we look at the some of the numbers we see some very disturbing statistics.

Lack of Savings…

According to gobankingrates.com:

  • Over 2/3 of Americans don’t have $1,000 in a savings account.
  • 45% have no savings at all.

Massive Consumer Debt…

According to NerdWallet, Americans owe more than $14 trillion
  • $466 billion in credit card debt
  • $9.5 trillion in mortgage debt
  • $1.3 trillion in car loans
  • $1.5 trillion in student loans

The “Average American” has no safety net!

Financial Safety Net

A Major Financial Crisis

When 30 million people lose their jobs, and millions more see their pay reduced, it is going to cause real problems very quickly.  This time, the government stepped in to provide some relief.  Many banks and lenders have been very understanding too.  But the next time you face a financial crisis, you may not be able to depend on the same measures.

Having cash allows us to keep the lights on, food on the table, and a roof over our heads.

Eliminating debt means we have less money going out each month. And this means the money we do have can go for what we truly need.

How Do You Do This?

We need to focus on how to avoid these problems if or when there is a “next time.”

How do you do this?  It’s simple, but not necessarily easy.

1. Take a hard look at how you spend money.

The past few months should have revealed what expenses are truly essential.  You will need to make some hard choices and big changes in the expenditures that aren’t.

2. Make saving a higher priority.

As things return to normal, make it a point to save something from each paycheck.  Aim to have at least $1,000 in a savings account to start.

3. Create a plan to eliminate your debt.

Focus on your car loans, your credit cards, and student loans.  One of the best ways to do this is to use the debt snowball created by radio personality, Dave Ramsey.

Your Financial Safety Net

Be ready for the "next time"

We don’t know when the next financial crisis will happen, and it may only be YOUR financial crisis.  Your financial safety net will mean a whole lot less stress and a lot less pain.

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What the Heck is a V Shaped Recovery?

What the Heck is a V-Shaped Recovery?

With many states creating plans to reopen the economy, we keep hearing about the recovery. Experts continue to weigh in on what it may look like. But it leaves people wondering, “What the heck is a V-shaped recovery?” 

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If you hadn’t noticed, the American economy has come crashing down. Some people are estimating this will be one of the worst quarters since the Great Depression.

Now, the investment experts and economists are starting to focus on the recovery. And when they get on TV, you start to hear them say things like a V-shaped, or U- shaped recovery. I’ve even heard some talk about a “W” shape or an “L.”

What the Heck is a V-Shaped Recovery?

If you visualize the letter “V”, you see a steep decrease that comes to a point, followed by a steep increase. Think of this as a graph representing important economic data, like GDP, sales, or corporate profits. We’ve seen a rapid decrease in those data points.

V shaped recovery

Many hope that these numbers recover and improve just as quickly as they fell. And we’ll look back at those key statistics and see a “V” shape. This is the most optimistic scenario.

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The U-Shaped Recovery

A U-shaped recovery would see a sharp decrease followed by a gradual bottom. On the other side, the recovery would start slowly and accelerate as time moves on.

Recovery V Shaped

This would make the graph of those data points look more like a “U”. Not as good as a whole, but still not awful either.

A W-Shaped Recovery

V Recovery shape

You have some people worried about a “W” shape. And this wouldn’t be ideal. This would happen in this scenario. We reopen the economy, and things begin to recover quickly. As a result, we see the virus infections spike, which leads to another shutdown. And then the economy would restart at some point in the future.

This would not be ideal, but there is a risk of this happening.

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The L-Shaped Recovery

V shaped recovery

Perhaps the worst possible outcome is an L-shaped recovery. We’ve already seen the rapid decline. But in this scenario, the economic recovery would be long and very slow. A recovery like this could take years to return to where we were before this all started.

What Do I See?

I believe a U-shaped recovery is the most likely scenario at this point. The elected officials are going to reopen the economy at a very measured pace. People are going to be hesitant to spend, and it will take a while for demand to recover.

As much as I would like to see the V-shaped recovery, I don’t see it happening at this point. I am hopeful that we won’t experience a W-shaped curve. In that scenario, the governors would be a lot slower to reopen the economy a second time. And the damage from that would be even worse.

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What Do You Think?

What do you think?  We’d love to hear from you.  Leave your comments down below.

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Neal Watson is a Certified Financial Planner™ Professional and a Financial Advisor with Fleming Watson Financial Advisors. 

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