Which Way to Retirement?

Hello,

It always happens that when you are about to make a big decision, something always comes up and messes everything up and you are forced back to the drawing board. There were individuals who were planning to retire this year, and after what happened to the stock market, many have been forced to rethink their strategy by either postponing their retirement to a later date or cutting down on their expenses. Retirement is a major event in a every person’s life, and thus requires you to make the kind of decision that you will not regret later on. But retiring is one thing, and ensuring that you have a decent and comfortable retirement is quite another as it will require you to make the right investment moves with your retirement portfolio. Kelly Greene explains in the following article on how to go about avoiding some of the major pitfalls of retirement.

If you are on the verge of retirement, the past few weeks must have seemed like a horror movie. Just when you thought you had emerged from the wreckage of 2008 with your savings intact, another market storm erupted.

Lynette Robinson, a 65-year-old executive director of a consortium of colleges, was planning on retiring this November —until her investments took a hit this past week.

“The really sad thing is that I am back where I was after the 2008 crash,” says Ms. Robinson, who lives in Boston. Now she is considering other alternatives, including working longer or taking on work as a consultant.

“It’s scary because you are going along one path and then suddenly you have to shift your plans,” she says.

The worst thing you can do now is panic. Hitting the “sell” button on your stock portfolio, after the Dow Jones Industrial Average has fallen 11.1% in three weeks’ time, could hurt you more than anything else. Not only would you be locking in losses prematurely to preserve capital you might not need for years, but you also would miss out on any future rally.

“If what this crisis has done is focus your attention on the fact that stocks are risky, make a note to act on that knowledge later,” says Alicia Bunnell, director of the Boston College Center for Retirement Research. “But don’t sell now.”

That doesn’t mean you should sit tight, however. If you are consumed by worries, there are other steps you can take right away, from ramping up on “alternative” investments and annuities with guaranteed payments to restocking your cash accounts and rethinking your budget.

Here’s what to do now.

Check Your Spending

Before you sell any stocks or buy any alternative investments, pin down your core living expenses — and do a gut check on your risk tolerance.

To figure out your real spending, Thom Hall, a certified financial planner in Midvale, Utah, recommends tracking your expenses free of charge on sites such as Intuit Inc.’s Mint.com.

“When I sit down with people and say, ‘How much money do you need?’ They don’t really know,” he says. “That is by far the most common error.”

He also asks clients to take an online risk-tolerance survey at FinaMetrica.com, for which he pays $890 a year to subscribe. (It costs $45 for individuals.) “It’s expensive, but it’s an impartial tool, and there are people who say, ‘I’m really conservative,’ but their portfolio has really aggressive investments.”

Don’t expect your spending to fall significantly when you retire; some people even spend more in retirement as they tackle household projects, buy new sports gear or travel.

Chris Roberts, for example, is set to retire in December, though his last day at work before using up vacation days is Aug. 22. A natural-gas-utility worker in Los Angeles, he and his wife, who is retiring later this year, are hoping to take a trip to Ireland next year, along with shorter visits to Las Vegas and Utah.

They still are on track, he says, but they are going to check on their investments before buying the tickets abroad. “If things do better, maybe we’ll go farther,” he says. “If they do worse, we’ll adjust.”

Many expenses can be postponed if they would force you to sell battered investments — but you need to know what is discretionary and what isn’t before you can make those calls.

Secure Your Cash

Some people nearing retirement had the foresight to dump some stocks in the two weeks leading up to the debt-ceiling deadline and have stayed in cash since. Selling when stocks are high isn’t a bad idea, of course, as long as you aren’t trying to time the market.

Moving more money into cash before retirement is a smart move. The standard financial-planning advice for people nearing retirement is to stash in cash what you would need to cover at least a year’s worth of basic expenses, including food, shelter, health care and transportation. Keep in mind that this is after any other income you might get from Social Security payments, a pension or other regular income.

In addition to protecting your pocketbook, carving out “two years of grocery money provides a psychological benefit. You’re able to be more patient with your investment portfolio,” says Lane Jones, chief investment officer of Evensky & Katz LLC in Coral Gables, Fla.

If you have more than a year’s worth of income in cash, Mr. Jones recommends keeping a second year’s income in a bond fund with a one-year maturity.

To play it safest, invest that sizable cash portion of your nest egg in a Federal Deposit Insurance Corp.-backed money-market fund or savings account, since money-market funds with higher risk are paying low interest rates as well. “At least control the one thing you can control,” says Mark Cortazzo, a certified financial planner in Parsippany, N.J. “Get the highest-yielding money-market you can with a bank that’s strong.”

He is using EverBank’s high-yield money-market account, which is paying 1.01% — better than what many money-market mutual funds are offering.

Pick a Good Annuity

If you are close to retiring, it might be time to overhaul your investment portfolio — regardless of what happened in the markets over the past few weeks.

Increasingly, retirement advisers are counseling retirees without traditional pensions to buy annuities that will generate enough income to cover their basic living expenses for the rest of their lives. With any money left over, you can invest in a more traditional mix of stocks and bonds, with up to 60% in equities.

Joyce Kovacs, a 65-year-old registered nurse in Mankato, Minn., is planning to retire in February. Two weeks ago, she says, she got nervous about her investments after a friend received an email from her financial planner suggesting the friend switch to an FDIC-backed money-market fund.

On the advice of her financial planner, Ms. Kovacs kept most of her long-term stock investments intact, but moved her savings meant for the first part of retirement from stock mutual funds to a variable annuity with principal protection that should cover her basic living expenses to age 80.

She will be charged about 3% of the account’s value each year — but her money has more growth potential than it would in a savings account, says Ryan McKeown, her planner.

If you have a 15% hit to your principal the day before you start withdrawing, and your portfolio goes from $1 million to $850,000 and you need that same $60,000 withdrawal each year, your chance of running out of money jumps up to 56% from 16%, Mr. Cortazzo says. “And people expect a 15% hiccup sometime in retirement. So avoiding risk and transferring risk those few years before retirement is critical.”

In the past, the cheapest, most efficient way to get lifetime income was through a single-premium immediate annuity, in which a buyer pays one large chunk of savings in exchange for a lifetime income stream. But the size of the payments the annuity holder gets is determined in part by interest rates.

And with interest rates so low, it makes more sense for many people to buy a variable annuity with a guaranteed benefit, typically in the 5% to 6% range of what you invested, meaning the holder gets a regular income stream and picks equity-like investments that could lead to potentially higher payments down the road.

Be warned: They are complicated, and can be costly, Ms. Munnell says.

You should expect to pay up to 4.5% a year, with fees of 0.5% to 1.5% apiece for the guarantee, money management, and mortality and expenses, says Moshe Milevsky, an associate finance professor at York University in Toronto who researches retirement planning.

Seek out an annuity with a floor that increases with inflation, Mr. Milevsky says. The government’s consumer-price index for the elderly is a safer inflation gauge, he says. It regularly outpaces the CPI for the general population, in part because of medical costs.

Also, given the markets’ volatility, look for an annuity that evaluates whether to reset the floor frequently. One Transamerica Corp. product looks at monthly market benchmarks, and uses the month with the best performance each year to calculate a new baseline for an account’s value and payments, says Jim Otar, an engineer and CFP in Thornhill, Ontario. Allianz SE and MetLife Inc. sell annuities that uses year-over-year data to determine any increases, he adds.

Protect Principal

If you are scared off by a variable annuity’s complexity, but you also are scared to leave the money you would need in years three to five of retirement in the stock market, consider indexed certificates of deposit and “structured notes” with principal protection, which are basically derivatives packaged for individual investors, advisers say.

Indexed CDs are tied to the performance of stock markets, but offer principal protection backed by the Federal Deposit Insurance Corp. The one main risk: If you have to sell the investment before it matures, you may have to sell it at a discount.

Structured notes are similar but typically offer more upside because they also carry the credit risk of the issuer and return your principal at maturity, which ranges from note to note. They offer a return tied to the change in value in the underlying investment, such as a commodity or stock-market index.

Royal Bank of Scotland Group PLC, for example, is offering a structured note with a 4 1/2-year maturity tied to the performance of the Dow Jones Industrial Average. If the Dow rises, you would get 100% of the change in the index’s price; if it falls, you would still get your principal back.

The big downside, of course, is that the investment is backed by the issuer, not the federal government. Investors in structured notes backed by Lehman Brothers lost money when the investment bank collapsed in 2008.

“Stick with very straightforward, principal-protected structured notes, or ones that cap your losses,” Mr. Cortazzo says.

Hedge Your Bets

Many pros say they are leaving their clients’ long-term investments in place, for the most part.

But a few weeks before the debt-ceiling deadline, Mr. Jones and his colleagues in Coral Gables told their clients they planned to ride out a volatile period and buy more stock when things fell. They also asked if the clients wanted to buy a “blunt hedge” against a falling market by buying “put options” based on a 10% decline in the Standard & Poor’s 500 index. Put options give the holder the right buy an underlying security or index at a predetermined price.

A “handful” of clients bought puts that expire on Aug. 19 — a move that turned out to be prescient. At the time, the puts ranged in cost from 0.25% to 0.45%, or $250 to $450 for $100,000 invested. Now, because of the market’s increased volatility, it would cost about 2%, or $2,000.

Hedging may still make sense for individual investors who want to keep upside exposure to a rebound, “but it is much more costly,” Mr. Jones says.

Kevin Fitzgerald, a 55-year-old marketing executive in Highland, Colo., says he regrets not hedging his 401(k) investments after watching his account lose $250,000 — one-third of its value — last week. Now, he expects to work at least 11 more years.

Move the Date

If worries about retirement keep you up at night, and you can keep your job until you are ready to leave, you can always try to delay your departure a bit.

Christine Fahlund, a senior financial planner at T. Rowe Price Group Inc. in Baltimore, recommends a transitional phase of work for people in their 60s, in which they stay employed rather than retiring, but then sweeten the deal by spending the money they would have saved for retirement on the sorts of vacations or other “play” that they were looking forward to when they quit working.

David Ziser, a 62-year-old professional photographer in Cincinnati, this week postponed his retirement, which he had planned for the end of this year. With more than $1 million invested in stocks, he had considered his retirement plan to be solid. That changed this week when his portfolio dropped $50,000 in value. Now, he plans to keep working for at least two more years and maintain his current investments.

He isn’t taking a trip, though — he is considering buying another $70,000 in stocks.

“Look, things are on sale,” he says. “If I have to stay on the hamster wheel, I might as well take advantage of the environment.”

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About kenndungu

Live a few years of you life like most people won't, so that you can spend the rest of your life like most people can't. Anonymous View all posts by kenndungu

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