The retirement savings crapshoot: 5 ways to improve your odds
June 28, 2011
The Employee Benefit Research Institute (EBRI) is a responsible organization which provides valuable research on the state of retirement savings in America. They are not, in other words, an organization you would associate with a Las Vegas odds maker, and yet a recent EBRI publication offered odds on a variety of different betting propositions.
The betting propositions and odds involved were chances of retirement success. The EBRI runs computer simulations for a variety of different possible outcomes to determine the odds of a person in a given situation outliving their retirement funds (failure) or having enough money to live on in retirement (success).
The EBRI's probability approach points out two important things about retirement saving:
- Retirement saving is not a sure thing. Even if you make all the right moves, there will still be some chance of things going wrong.
- Average outcomes that are the basis for many financial planning models represent a 50/50 outcome - and that doesn't sound so reasonable when you think of it as the chance that you might outlive your financial resources.
Improving retirement odds
Still, while retirement saving is not a sure thing, it doesn't have to be a total crapshoot. Here are five things you can do to improve your odds:
- Start saving earlier. Fundamentally, think of retirement saving as two sides of a balance scale: the years of saving are on one side, and the years of spending are on the other. The more years you can add to your savings account, the more you will tip the scale in your favor.
- Raise savings rates. Of course, those years of saving and years of spending are not totally equivalent, since you will typically only save a fraction of your income. However, the higher you can raise your savings rates, the more impact those years of saving will have.
- Search for higher savings account rates. Any projection of success or failure in a financial model depends on certain assumptions, such as the rate of return on assets. Anything you can do to raise those returns - find higher savings account rates, make sound decisions in choosing investment products, etc., raises your chances of success.
- Make responsible asset allocation decisions. In the long-term, asset allocation is an important basis for those return assumptions, and for the actual results you achieve. Asset allocation should reflect your time horizon - i.e., the more time you have left to invest, the more risk you can take - and should be determined by long-range planning, not by knee-jerk reactions to market moves.
- Work longer. The EBRI study found that while working past the traditional retirement age of 65 does not guarantee retirement savings success, it does help improve your odds. This is especially true if you continue to contribute to an employee benefit plan in those extra years of your career. This goes back to the analogy of the balance scale: working longer is a way of adding years to the savings side of the balance, while subtracting years from the spending side.
There will always be some element of a gamble involved in retirement savings, but you do have the power to improve your odds considerably in the way you take that gamble.