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What’s Your “ROI”?

Written By: Allen Trimble | Secure Money Solutions

Allen TrimbleRecently I met with a client for his bi-annual review to discuss his portfolio, more specifically his retirement income plan. He wants to retire in three years, and he asked me what “ROI” he needed in retirement to maintain his desired standard of living? As many of you may have done, he had done some research and come across the “4% Rule” which has been the bedrock of retirement income planning for most brokers and advisors for decades. Simply put, the “rule”, which is really a guideline based on three academic studies using about 100 years of stock and bond index data (without the effect of management fees or transaction costs), states that a retirement portfolio of stocks, bonds and/or mutual funds should be able to deliver 4% of its value as annual income, adjusted each year for inflation, without running out. So for every $100,000 in a retiree’s portfolio s/he should be able to withdraw $4,000 annually, adjusting for inflation, and probably  not run out of money. Probably.

However, a more recent study published in 2011 examined the differences of stock and bond market conditions at the time retirement starts for a given retiree. After all, the state of the markets during your twenty or thirty years in retirement matters much more to you than the other seventy or eighty years of market data. This study by Wade D. Pfau, Ph.D., found that the ‘safe withdrawal rate’ varies significantly: from as low as 1.5% for retirements that started in 2008 to as high as 10% for retirements that started in 1921 or 1922. So the same $100,000 of retirement assets can produce between $1,500 per year and $10,000 per year and should last for life, depending on when you retire, which is certainly more useful information that knowing that the average ‘safe withdrawal rate’ over the last 100 years is 4%. To quote from the study:

“The lowest safe withdrawal rates occurred for retirements beginning when interest rates on bonds were at historical lows, when dividend yields on stocks were below average, and price/earnings ratios on stocks were at or above historical averages. These three situations describe the current economic circumstances (2011).”

In order to answer my client’s question, “what ROI do I need…” we need to define ROI! He was thinking “ROI: Return on Investment”, which is how people naturally tend to think about their portfolios in the years leading up to retirement. What he really wanted to know is, can his portfolio deliver the “ROI: Rate of Income” that he needs to maintain his standard of living in retirement? That is an altogether different question! And with a pretty disappointing answer if the only tools we consider are stocks, bonds and mutual funds, at least according to Dr. Pfau’s research. The study states that for retirements beginning in 2010, the safe withdrawal rate (ROI: Rate of Income) is 1.8%! But at least that should be sustainable for thirty years. Should be. But it is hard to get excited about $1,800 per year for each $100,000 of portfolio value.

The good news is that stocks, bonds and mutual funds are not the only tools that we can use; when it comes to retirement income planning, we consider all available tools, and believe that fixed annuities are not just “bond replacements”; they can be the foundation of a retirement income plan. This is not to say that there is no place in a retiree’s portfolio for stocks/bonds mutual funds. However, a retiree can get much higher ROI: Rate of Income from contractually guaranteed fixed annuities than the ROI: Rate of Income that should be taken from risk-based accounts in stocks, bonds/mutual funds where there are no guarantees. ROI: Rates of Income of 5%, 5 ½ %, even 6% or higher are available in fixed and index annuities that provide contractually guaranteed income for life, even if the account balance goes to $0.0, and yet still provide the owner with control of their principal should they need it or want to leave it to beneficiaries. In fact, if you are OK with no remainder value from a given account you can get even higher ROI: Rate of Income.

If you still have some time before you retire, or have an account from which you don’t need income for a while or perhaps need to plan for survivor income for your spouse, you can also get guaranteed interest rates of up to 6 ½% for future income, or in some cases to leave to a beneficiary(ies). This means that you can safely grow your retirement income portfolio at attractive ROI: Return on Investment until you start taking ROI: Rate of Income, both contractually guaranteed.

If you would like more information about the referenced articles or retirement income planning, you can reach us at (210)293-1893 or visit us at www.safemoneytexas.net.

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