Introduction
How much do we really need to retire? There are four factors involved here.
- The amount of capital invested into the retirement fund.
- The rate of capital growth.
- The amount of time for the compounding to work.
- The amount of income generated for retirement once the capital is established.
We shall go through a few case studies here. I trust they will help you understand the need to start early, and to choose the correct vehicle for growth.
Fixed Deposit Instruments (aka Certificate of Deposit)
These are our assumptions.
- $200 invested in this instrument each month. I believe this is a reasonable amount to set aside each month for our retirement.
- Interest rate at average of 3% per annum (0.25% per month). This is not impossible. Here in Singapore, we had FD rates of 6% before, but currently we are at a super-low of 1.25%. Over our assumption of 30 years required for capital growth, 3% should be reasonable.
- Retirement in 30 years after the investment plan.
- This part is tricky. The fluctuations in interest rates can really destroy your retirement objectives. But let us assume that there is an economic depression akin to what we are experiencing now at the time of retirement, resulting in current interest rates at 1.25% per annum (0.104% per month). Tell you what, let us try this even at a good 6% per annum (0.5% per month).
This results in final capital of $116,547.38 with an investment of $72,000. Unfortunately, the retirement withdrawal each month is only $121.21. This is barely even subsistence living! The CPF Board itself allows a withdrawal of $300. To me, FD instruments represent the most ridiculous planning for retirement. Even assuming 6% per annum, we are talking about $582.74 a month. If you want to retire on that living standard, I really have nothing to say.
Stock Market Instruments
Many insurance plans use this instrument as well. Money Market instruments have performances slightly less than equity markets, but it is similar enough not to matter. The average investor would use Mutual Funds run by professional fund managers instead of investing on their own. Personally, I believe with good financial education, the personally investor can do better than the professional fund managers. This is due to something called the Institutional Imperative.
- $200 invested in this instrument each month. I believe this is a reasonable amount to set aside each month for our retirement.
- Stock market average performance of 8% per annum (0.67% per month). This has been historically proven accurate when you talk about a time frame of 30 years. Shorter time frames give wide fluctuations. The shorter it is, the wider the fluctuations – even negative growth is possible!
- Retirement in 30 years after the investment plan.
- With stable companies like utilities and food, yearly dividends should average out to 6% (0.5% per month). Companies with business cycles can vary from no dividends to huge 12% or more dividends. Let us assume 6%, otherwise, we can write about it forever!
This results in a final capital of $300,503.50 with an investment of $72,000. The retirement withdrawal each month is $1,502.52. This is considered pretty good for someone who supposedly has no major financial commitments. I beg to differ, however – a major illness in the family can wipe out a big portion of the nest egg. Also, I believe after working for our children and our parents, our retirement is meant to be enjoyed. I personally would find it difficult to enjoy retirement on $1,502.52.
Private Investment Fund
I used to run a private investment fund, yielding much better returns. The better returns is due to the use of derivatives to secure leverage over the underlying stock. And since I buy the underlying stock as collateral as well, I am pretty much covered in case the market moves against me. I have since then closed the fund.
- $200 invested in this instrument each month. I believe this is a reasonable amount to set aside each month for our retirement.
- My investments net me conservatively 2% per month (24% per annum uncompounded) on my money.
- Retirement in 15 years after the investment plan (yes, I can retire that fast!).
- Continued investment at 2% per month (24% per annum uncompounded).
This results in a final capital of $343,208.31 on an investment of $36,000. The retirement withdrawal is $6,864.17. Now I can definitely live comfortably and well off on that amount!
Conclusion
My most sincere hope is that you will think deeply about the amount of money you will need to fund your retirement. Most of us do not spend enough time thinking about it, and find ourselves not able to have a good retirement when we can no longer earn the kind of pay we used to have.