March 19, 2024

Bucks Blog: The $1 Million Nest Egg

My Strategies column on Sunday, “For Retirees, a Million-Dollar Illusion,” was intended to be provocative. It evidently succeeded.

Hundreds of people responded to the column in writing, raising far more questions than I can address individually.

I plan to answer some of the major ones in my column this coming weekend — and to cover others in the weeks ahead, along with my colleagues. For now, here are some quick thoughts on a central question, and then an answer to a specific one.

Several people asked why the column focused on a $1 million nest egg. Why go there if most people don’t have $1 million? And if $1 million retirees might exhaust their money before they die, what hope is there for everyone else?

One million dollars has symbolic power. That’s why it was the column’s central metaphor. It wasn’t chosen to represent the savings of a typical American family.

In fact, $1 million in financial assets is more money than 9 out of 10 American families have — and it’s vastly more than the typical family possesses. That’s especially true when you exclude the value of a home, which accounts for a high proportion of the wealth of people in most income brackets.

As Edward N. Wolff, an economics professor at New York University, said in the column, $10,890 is the median financial net worth of American households of all ages today, including the value of their stocks, bonds, 401(k)’s and other investments. To be absolutely clear, that figure excludes the value of a home. (With home equity included, the median net worth of an American family in 2013 is $60,678, he calculates. That estimate is based on 2010 Federal Reserve data, updated according to changes in the Standard Poor’s 500-stock index and the Case-Shiller housing index.)

Yet thanks to inflation, $1 million is no longer a great fortune. It’s not the vast sum it was when John Jacob Astor was popularly described as America’s first millionaire, nor does it come near the riches it represented a generation ago, when Marilyn Monroe, Lauren Bacall and Betty Grable portrayed women seeking rich husbands in “How to Marry a Millionaire.”

Today, there are almost 10 million millionaire households in the United States (excluding the value of a home), according to Professor Wolff’s calculations. In short, $1 million is a great deal of money, yet it is not so absurdly large a sum as to be beyond the comprehension — and, perhaps, the aspirations — of many people.

That may be why the calculations for the $1 million portfolio were so startling.

They started with a 65-year-old couple, retiring this year and using the 4 percent withdrawal rate that is a commonly used rule-of-thumb draw-down. The calculations provided by Bernstein Global Wealth Management showed that at a 4 percent withdrawal rate, adjusted for inflation, if they had invested the $1 million entirely in municipal bonds, there is a 72 percent probability that they will exhaust all of that money before they die.

One important factor for this disturbing outcome is the highly unusual state of the markets more than five years after the onset of a global financial crisis. Bond yields remain very low, and central bank intervention in the economy remains very high. This won’t persist forever, but it has caused many investors to rethink the rules of investing and retirement.

As the column suggests, this situation underlines the important role that Social Security plays for people at nearly all levels in the national income distribution. If Social Security is important for millionaires, it is far more crucial for nearly everybody else.

And the column notes that people at nearly all income levels are not saving enough to maintain their current living standards in retirement. Paring back spending would help in many cases, as would delaying retirement, for those able to do so. That’s true for many people with big nest eggs, and it’s true for many without them.

As many readers pointed out, payouts from solidly funded, traditional pension funds make retirement much easier. One implication, not drawn specifically in the column, is that old-fashioned pension funds may have enormous value — in some cases, providing more monthly income than a $1 million portfolio.

The column briefly discussed measures that can be taken to recalibrate portfolios, mainly adding stocks to the mix. Over the long run, stocks have added to annual portfolio returns — at the cost of higher volatility, and possible losses of capital, which may be unpalatable to many retirees. That raises some difficult choices.

Several people asked specifically about one of those choices — including dividend-paying stocks in a portfolio intended to produce steady income. I didn’t discuss dividend-paying stocks at all in the column, but that was only because of space limitations.

Dividend-paying stocks in the current environment do make sense for many investors. Why? The current dividend yield for the S.P. 500 is 2.07 percent, according to Bloomberg. That’s almost as much as the yield on the 10-year Treasury note. And the advantage of holding dividend-payers is much the same as for other stocks — if history holds for the future, they may well increase in value at a faster rate than Treasuries. Furthermore, at the moment, the consensus in the bond market is that Treasuries are vulnerable to losses if the economy improves and the Federal Reserve tapers its bond-buying.

There are dangers, however, that investors, and particularly retirees, need to evaluate carefully: Dividends aren’t as steady as bond yields, and the value of a stock is likely to fluctuate much more severely than that of a high-quality bond. That risk-reward trade-off can be tricky; bonds and dividend-paying stocks aren’t entirely equivalent. The general rule that diversification is safer is very important here.

I’ll end by noting that many people have asked for specific advice. For concrete guidance about your own finances, you’ll need to talk to an adviser. I’ll provide more analysis of these broad issues, however. And I do appreciate those comments and questions!

Article source: http://bucks.blogs.nytimes.com/2013/06/10/the-1-million-nest-egg/?partner=rss&emc=rss

Money Through the Ages: Repairing a Long-Neglected Nest Egg

FROM Mozart, who begged patrons to help settle his debts, to the rapper MC Hammer, who declared bankruptcy, musicians have a long history of lacking money skills. So far, Marina Sturm, a 55-year-old clarinetist, has managed to avoid Mozart’s fate. “I don’t like owing people,” she said. And while she’s far from the problems Mr. Hammer’s faced, she has fallen into other money traps like indifference and a lack of confidence.

“I’m naïve” about money, she said. Combine that with the passage of time and this single, tenured professor at the University of Las Vegas feels as if she has wasted valuable years. “In my 20s, I didn’t think about it. Thirties, maybe. In your 40s you’re more likely to, then 50s you go ‘Whoops!’ ”

At least she’s on notice. In a recent Harris Interactive Poll, 25 percent of baby boomers said that they had no retirement savings at all and 26 percent said they had no cash savings.

Ms. Sturm is in much better shape, though far from where she should be to meet her retirement goals. After talking with Kimberly D. Overman, a certified financial planner who is president of the Financial Well, an advisory firm in Tampa, Fla., Ms. Sturm discovered that she actually had close to $180,000 saved and invested, much more than the $80,000 she thought she had before looking at her statements.

But to save the amount that Ms. Sturm actually needs to retire at age 67, there’s additional pressure. She earns her living in two professions taking a big hit in this economy — teaching and the arts. Ms. Overman, 52 and also single, took to Ms. Sturm and her needs immediately. “Most of the issues that are going on in our world are going on in her life.”

Ms. Overman said that when making a financial plan, assumptions on future income needed to be flexible to take account of the realities of the times. For Ms. Sturm, who even with tenure has already been placed on paid furlough and may be forced to take a 5 percent salary cut, “we’re in a position right now that we have to think that that assumption doesn’t really work,” Ms. Overman said.

And though Ms. Sturm does not have children, she is caring for an aging parent. To be able to take in her 89-year-old mother and have other family nearby to help, Ms. Sturm recently bought a bright, adobe-style home here, with a view of the mountains. After not being a property owner for decades, Ms. Sturm now has a mortgage and — though her mother is helping with expenses — the strain of a new set of costs is wearing on her budget and her mind. “If something happens with Mom, how much of it will have to be out of our pockets, I don’t know.”

With that in mind, Ms. Overman’s advice for Ms. Sturm started with getting long-term care insurance for herself. “In my opinion it’s essential. You can break a hip and long-term care will take care of you when medical coverage does not — same with stroke.”

Ms. Overman said all older people should consider such coverage, even married couples with children. “I have had women tell me, ‘My kids will take care of me.’ Only to have them call me a year and a half later saying that their kids are losing their jobs because they’re taking care of me!”

But long-term care insurance can be expensive. Can Ms. Sturm, who makes less than $70,000 a year, manage that? And does it make sense?

“It is expensive but not having it is also expensive,” Ms. Overman said. She estimated that such coverage for Ms. Sturm would cost about $1,900 a year. “I bet you she’s paying that much in car insurance.”

The youngest of three children from a musical family, Ms. Sturm has enjoyed her “nomadic” existence, but it has left her finances scattered through four separate retirement accounts. Ms. Overman’s advice: consolidate. “She does need to consolidate into a single I.R.A. so she can diversify without having to keep track of 14 different statements which she doesn’t read anyway.”

Ms. Overman, who is also president of the Financial Planning Association of Florida, works with clients by initially assessing their tolerance for risk. After answering 25 questions, Ms. Sturm’s results showed that she was very conservative — more so than 80 percent of investors.

Ms. Overman’s strategy to plump up Ms. Sturm’s conservative portfolio was to get her to put the maximum contribution into her 403(b) savings plan and put even more each month into a Roth I.R.A. “If she can bump it up to the 15 percent level and rebalances her portfolio, she has about a 70 percent chance of hitting her retirement goals.” This sunny prognosis is aided by Ms. Sturm’s pension, larger than she had thought, but still too small to live on even when combined with Social Security. As a last and vital move, Ms. Sturm needed to reduce her expenses by about 35 percent at retirement, Ms. Overman said. “If she doesn’t make these changes, her chances are zero. That’s the problem.”

Ms. Sturm’s expenses needed triage. Her cash balances were too low for Ms. Overman. After putting a down payment on the home and lending cash to her sister at 2 percent interest, Ms. Sturm needed to find places to cut. After a rather painful realization, she accepted Ms. Overman’s suggestion that she create and stick to a budget. “For someone who is creative, dealing with that hunt and peck is painful,” Ms. Sturm said. In the past, she never paid attention to grocery prices, but now was learning to pass up costlier items in favor of less expensive ones.

And that musical logic? Ms. Overman found that it had its advantages. She may not be trained in financial strategies, but “she’s very astute,” Ms. Overman said.

One smart move was buying half a dozen round-trip plane tickets from here to her job in Las Vegas. With rising oil prices and airfares, Ms. Sturm wanted to lock in current prices as a hedge. Also on her mind were tax deductions she might be able to take to reduce her commuting bill of $300 a week. “I need to ask around,” she said.

So many changes in such a short time left Ms. Sturm reeling but energized. “I don’t know how fast it can happen. But that’s the way I run my life: open the door; make the moves. And not just sit there, stunned.”


Article source: http://feeds.nytimes.com/click.phdo?i=347ebd735e1e1e386d165b1333c45f3a