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Start Early, Start Small

You’ve developed some ideas about where you’d like to live in retirement.  You have a will and have lined up all the other estate-planning documents your attorney recommended.  You’ve given thought to how you want to spend your time in retirement — traveling, volunteering, enjoying hobbies, visiting family.

That leaves just one big question unanswered:  Will your nest egg and retirement benefits be enough to cover your living expenses and fund all the extras?

In this feature, BetterInvesting tackles several issues facing investors as they contemplate retirement.  The magazine reviewed retirement-related presentations that BetterInvesting educators gave at the June 2007 convention in Dallas.  BetterInvesting put the question of retirement planning to members of its Editorial Advisory and Securities Review Committee. 

It also visited the websites of financial publications, nonprofit organizations and government agencies providing retirement and financial planning information.  (For a sampling of the available online resources, see below.)

Maybe you’re just beginning your career, are strapped for cash and don’t believe retirement investing is practical — or important enough — to start just yet.  But keep in mind that even small investments can become large sums over time, given the power of compounding.  The longer you have to invest, the more you’ll accumulate for retirement.  Also, starting when you’re young and investing small amounts throughout your life can produce better results than putting it off for years until you’re making more money and can set aside larger sums. 

For example, if you sock away just $100 per month starting at age 21 and see compounded annual returns averaging a conservative 10 percent over the 47 years until you’re 68, you’ll accumulate $693,264 after taxes at a marginal rate of 15 percent.  Alternatively, if you start investing $1,000 a month when you’re 47 and continue for 21 years, you’ll end up with about the same amount — $696,428.  You can run similar investment outcome scenarios using online calculators available at many financial websites.

Small-scale, long-term retirement investing is more convenient than ever.  For example, many corporations sponsor direct stock purchase and dividend reinvestment plans, charging no fees or at most a few cents per transaction.  Many companies allow stock buys of $50 or less, and some will accept as little as $10 per order.  Although direct purchase plans and DRIPs lack the tax advantages of retirement instruments such as Individual Retirement Accounts, they can still provide a young investor with a solid start. 

According to one estimate, some 1,500 companies allow direct purchases of their stock. BetterInvesting is now providing members with an online list of some of the companies offering such plans, with approximately 700 names included.  

Mutual funds and exchange-traded funds are convenient ways to build up retirement assets through tax-advantaged instruments such as IRAs.  Once you’ve learned the BetterInvesting way of picking high-quality growth stocks, another approach is to establish a self-directed IRA — either traditional or Roth — through a stock brokerage.  If you decide you won’t need all the extras offered by a full-service brokerage, an account with a low-cost online provider might suit your needs.  Commissions for stock purchases now fall below $10 per transaction at several online brokerages.

Have a Plan

Choosing a financial adviser is a lot like picking a doctor, landscaper or auto mechanic, says longtime volunteer educator Cy Lynch,
who made a presentation on financial planning at the 2006 BetterInvesting National Convention.  Ask friends, co-workers, your attorney and other professionals for recommendations.  Attend free seminars put on by planners you might consider. 

You may need to interview two or three planners before deciding, Lynch says.  Look for a professional who shares your investment style and philosophy.  Also, look for someone who’s trustworthy, someone with whom you can establish a rapport.  Other factors include the adviser’s experience, specialization and professional designations, licenses and registrations.

Your overall financial plan should be a team effort, Lynch says.  An accountant can guide your tax strategy.  An attorney can structure an estate plan.  An agent can assess your insurance needs.  If you don’t already have a team lined up, your financial adviser can provide recommendations.

Before working with a planner, determine how much help you’ll need, Lynch says.  How complex are your personal circumstances?  Are you knowledgeable about finance?  Are you comfortable making financial decisions?  Will you have the time and willingness to learn more and work on implementing a financial plan?

As an independent BetterInvesting investor, you may decide you need only limited or specialized help from a professional, Lynch says.  Alternatively, you may opt for a comprehensive financial plan built from the ground up.    

For more information about financial planners, see below.

Diversify Your Holdings

Conventional wisdom holds that investors preparing for retirement should own not only common stocks but also a variety of other assets — bonds and cash equivalents, for example.  Given the reality of stock market volatility, the argument goes, it’s best to own several investment types.  When prices of one class decline, other assets may hold or increase their value and shore up the portfolio. 

As workers inch closer to retirement, they can periodically rebalance their portfolios, reducing the percentage of stocks and increasing the proportion of bonds and other holdings.  That way a major stock market downturn won’t damage a portfolio as much. 

According to one formula, an investor should subtract his age from 1 to determine the right percentage of stocks for the portfolio.  Using this arithmetic, a 55-year-old investor would keep 45 percent of his retirement portfolio in stocks.  A 25-year-old would have 75 percent.      

The mutual fund industry has jumped on this bandwagon, offering retirement products known as life-cycle or target-date funds with age-determined asset balances.  But some analysts warn these funds can be structured too conservatively, depriving investors of the growth potential common stocks historically have provided.

The dissenters include members of the magazine’s Editorial Advisory and Securities Review Committee, who discussed retirement issues at their August meeting.  The financial analysts argue for different approaches to diversification, both for retirees and for workers accumulating wealth for their later years.

To determine the right asset balance, investors should start by projecting how much they’ll receive in retirement from pensions, Social Security and other predictable sources, says Maury Elvekrog, chairman of Seger-Elvekrog Inc.

“It’s illogical to have some fixed allocation in stocks,” says the Detroit-area investment adviser.  “The percentage should be a matter of your personal circumstances.  Once you have such a ‘security’ fund, then your retirement assets should all be in stocks.”

Bob Bilkie, CEO of Sigma Investment Counselors, notes the well-known advantages of growth stock investing.  Stocks provide long-term protection against rising costs — an important consideration when Americans are living longer on average and spending more post-retirement years dependent on fixed incomes. 

“Historically, stocks have been the best hedge against inflation,” he says.  “Because of their rising income streams and the rising nature of their prices, stocks allow a person preparing for retirement to be able to fund the rising cost of living with a rising asset stream.” 

Bilkie says that rather than think of asset allocation in terms of fixed percentages, investors may find it useful to visualize several “buckets” into which they can place their holdings.  Someone entering retirement should establish a bucket containing enough cash to cover living expenses and other obligations for three to five years.  Cash can consist of savings accounts, certificates of deposit, money market accounts and short-term bonds and bond mutual funds. 

Another bucket might consist of intermediate- to long-term bonds and bond mutual funds.  Yet another — the largest — would contain stocks.  Every three to five years you replenish the cash bucket by drawing from the other buckets.

Most stock market cycles last three to five years from peak to trough to new peak, Bilkie says.  With several years’ worth of cash on hand, a retiree doesn’t need to worry about having his entire portfolio decimated in a big market downturn.

In contrast, someone with 20 or more years to go before retirement can afford to ignore three- to five-year market cycles.  That investor should fill his retirement bucket entirely with stocks, Bilkie argues. 

“A common mistake that investors make is assuming everything goes into the nonvolatility cash bucket when they retire,” he says.  “What they don’t realize is that they may live another 25 years during which inflation will erode their purchasing power.”  

Committee members urged investors to use a lot of caution when considering annuities as a way to boost the guaranteed portion of retirement income.  Although annuities offer guaranteed lifetime payments, those payments may not add up to much if you die prematurely.  Also, heavily marketed, complex annuity products may carry heavy commissions, plus stiff penalties for early cancellation.

“An annuity satisfies the security need, but if you die early, you’ve lost the bet,” Bilkie says.  “If you have a low-cost, single-premium fixed annuity, you can make a case for it — particularly for investors who are worried about outliving their assets.”

Finding Sound Advice

As you work on your financial goals, one question you’ll face is how much professional assistance you need — or want.  There’s no shortage of help.  You can pick from among all sorts of professionals — financial planners, investment advisers, accountants, brokers, insurance agents and specialist attorneys.

Part of selecting an adviser is deciding what forms of compensation you’re comfortable paying.  Some charge fees.  If paying up front would strain your budget, you can turn to one of the many advisers who collect commissions — also known as front-end loads — on financial products they place with clients.  Other advisers combine client fees with commissions.

One well-known kind of adviser is the Certified Financial Planner.  Holders of the CFP designation have passed a certification examination, often after having gone through a course of study lasting two years or more.  The Certified Financial Planner Standards Board, a trade group, oversees the certification program.  For a list of local CFPs , visit the board’s website (see below).    
Cost Survey

In January the College for Financial Planning, an arm of the CFP board, conducted the latest in a series of online surveys of its members.  It asked CFPs about their practices, including how they make their money.  Here’s the breakdown:

Fee and commission 51 percent
Fee only  34 percent
Commission only 9 percent
Salary only 4 percent
Salary and fee 1 percent
Salary and commission                  1 percent

One kind of service is a single-focus plan addressing just one client concern — an issue such as paying for college education, reducing taxes or achieving retirement goals.  Among the CFPs using fees, costs ranged from $100 to more than $2,500 per plan.  Fifty-eight percent charged $300 to $899, though, with the largest segment — 26 percent — charging $500 to $699.  Thirteen percent reported billing less than $300, and 29 percent said they charged clients $900 or more.

Fifty-four percent of the planners billed by the hour.  Their hourly fees ranged from less than $100 to more than $500.  The hourly rate was $100 to $199 for 51 percent and $200 to $299 for 37 percent.

Planners also provide clients with comprehensive reviews covering a wide range of financial considerations.  Although the full range of charges planners reported was the same as for single-focus plans, a comprehensive review typically cost more.  A total of 61 percent charged $750 to $2,999 per plan.  The largest segment of the CFPs — 31 percent — charged $1,000 to $1,999.  Fifteen percent charged less than $750 and 24 percent $3,000 or more.

The college conducted the survey in cooperation with Financial Planning, the organization’s membership magazine.  With 408 valid responses, the survey had a 4.9-percent error rate at a 95-percent confidence level.

Note that fee-only planners may have a flat charge, an hourly rate or some combination of both.  Also, some fee-only planners handle client investments in return for ongoing management fees.

Many fee-only professionals who specialize in preparing comprehensive plans are members of the National Association of Personal Financial Advisors.  You can get a list of such fee-only planners in your area at the NAPFA website (see below).

Retirement Planning Resources


The Certified Financial Planner Standards Board
National Association of Personal Financial Advisors

Employee Benefits Security Administration, U.S. Department of Labor
(See the Retirement Plans and Retirement Savings links, under Consumer Information.)

Among its publications is “Taking the Mystery Out of Retirement Planning.”  Although designed chiefly for those within 10 years of retirement, the booklet contains information useful for investors of all ages.  To download, click on Featured Publications, under Publications-Reports.  Or call the agency at 866/444-3272 for a print copy. 

(See the link Financial Planning and Retirement, under Money and Work.)

Women’s Institute for a Secure Retirement


(See Investment Returns, under Investment Calculators.)

(See Retirement, under Calculator.)

Articles and Calculators

(See Retirement.)

(See the link Am I Saving Enough for Retirement?)

(See Retirement, under Personal Finance.)

Mutual Funds

To identify low-cost mutual funds with low minimum requirements for retirement investing, see the Mutual Fund section of the BetterInvesting website.

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