Simple Retirement Calculator

retirement risk

retirement risk

 

April is always rough for me.  Taxes play some role in April, because I get a certain amount of my tax data late, but the main reason stems from some charitable boards on which I serve, which meet in/near April.

One of the questions that came to me was how we could educate some of the workers to put away more of their income for retirement, because we don’t have a Defined Benefit plan.  After a little discussion, I said that I could give them good friendly advice.  As most committees go, when someone volunteers to solve a problem, discussion ends.

Now, what I have done is pretty simple, and violates one of my rules — I don’t believe in constant compound interest.  Markets don’t work that way, but for some perverse simplifying reason, retirement planning models do.

What I have done is create a model for retirement income, attempting to express it in terms that someone non-knowledgeable could understand.  You can download the Simple Retirement Calculator(free to download) that I created.

My base case assumes 3% inflation, pay keeps pace with inflation, and the real return on investing is 2% over inflation.  Other assumptions: one works for 45 years from age 25 to 70, and that the options for payout are limited to those that respect spouses and heirs.

So what can one 25 years old expect from saving over a 45 year period of time?

Savings Rate
Salary Replacement 5% 6% 7% 8% 9% 10% 11% 12% 13% 14% 15%
J&S 100% Cash Refund 22.9% 27.5% 32.0% 36.6% 41.2% 45.8% 50.4% 54.9% 59.5% 64.1% 68.7%
J&S 100% CR Indexed 15.1% 18.1% 21.1% 24.1% 27.1% 30.1% 33.1% 36.1% 39.1% 42.1% 45.2%
4% year 14.6% 17.6% 20.5% 23.4% 26.4% 29.3% 32.2% 35.2% 38.1% 41.0% 43.9%
Accum Years Ending Pay    3.66    4.39    5.13    5.86    6.59    7.32      8.06      8.79      9.52    10.25    10.99

This table expresses what is needed in order to have effective income during retirement.  The average investor can’t control asset returns.

J&S 100% Cash Refund -> Spouse gets 100% after death of annuitant, heirs get a payment annuitants got less than the lump sum value at retirement.  Indexed benefits increase at the rate of the CPI.

With a 2%% real return, it takes a lot of saving to replace current income in retirement, even over 45 years. Note that the real return assumption has the largest impact on the results.

Much as I think DB plans are superior to DC plans for the average person, most companies in the present environment will not subsidize a DB plan to the degree that will allow a person to retire at the same level of purchasing power that they had while employed.

There are many ways that I could improve the results of this model, but the improvements would only be incremental.  The main point of this model indicates that most people do not save enough, if all of their retirement outcomes rely on a defined contributions plan.

Let me know what you think  in the comments below.  Thanks.

By David Merkel, CFA of Alephblog

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About the Author

David Merkel
David J. Merkel, CFA, FSA — 2010-present, I am working on setting up my own equity asset management shop, tentatively called Aleph Investments. It is possible that I might do a joint venture with someone else if we can do more together than separately. From 2008-2010, I was the Chief Economist and Director of Research of Finacorp Securities. I did a many things for Finacorp, mainly research and analysis on a wide variety of fixed income and equity securities, and trading strategies. Until 2007, I was a senior investment analyst at Hovde Capital, responsible for analysis and valuation of investment opportunities for the FIP funds, particularly of companies in the insurance industry. I also managed the internal profit sharing and charitable endowment monies of the firm. From 2003-2007, I was a leading commentator at the investment website RealMoney.com. Back in 2003, after several years of correspondence, James Cramer invited me to write for the site, and I wrote for RealMoney on equity and bond portfolio management, macroeconomics, derivatives, quantitative strategies, insurance issues, corporate governance, etc. My specialty is looking at the interlinkages in the markets in order to understand individual markets better. I no longer contribute to RealMoney; I scaled it back because my work duties have gotten larger, and I began this blog to develop a distinct voice with a wider distribution. After three-plus year of operation, I believe I have achieved that. Prior to joining Hovde in 2003, I managed corporate bonds for Dwight Asset Management. In 1998, I joined the Mount Washington Investment Group as the Mortgage Bond and Asset Liability manager after working with Provident Mutual, AIG and Pacific Standard Life. My background as a life actuary has given me a different perspective on investing. How do you earn money without taking undue risk? How do you convey ideas about investing while showing a proper level of uncertainty on the likelihood of success? How do the various markets fit together, telling us us a broader story than any single piece? These are the themes that I will deal with in this blog. I hold bachelor’s and master’s degrees from Johns Hopkins University. In my spare time, I take care of our eight children with my wonderful wife Ruth.

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