A helpful reader sent me a WSJ article with the provocative theme that all this investment advice about asset allocation doesn’t matter for most people. Why?
For the vast majority of savers, improved investment returns won’t materially extend how long retirement money lasts. That’s, in large part, because few investors have enough money in their retirement account to tilt the balance.
Far more important, says the paper from the Center for Retirement Research at Boston College, are three variables that don’t require a brokerage account: how long you work, controlling spending and tapping the value of your home.
Briefly, the study found that 47% of households would fall short of their income needs in retirement at age 67, when Social Security kicks in for those born after 1960. However, even if investors were able to theoretically earn a guaranteed 6.5% above inflation annually in a riskless investment, 44% would still be short.
How little are people saving? The WSJ article notes that having $500,000 in financial assets by retirement age would put in you in the top 10% of savers. The CRR working paper itself mentions that “the typical 401(k)/IRA balance of households approaching retirement is less than $100,000″ but I didn’t see a source.
The Employee Benefit Research Institute (EBRI) found that in 2010 the average IRA individual balance (all accounts from the same person combined) was $91,864, while the median balance was $25,296. EBRI also found that at year-end 2010, the average 401(k) account balance was $60,329 and the median account balance was $17,686. But that’s for all folks, not just people of retirement age.
This shouldn’t be too surprising. Your savings rate is the most important factor in determining if you can retire comfortably. Working longer is the same as saving more and spending less (for a while). Getting used to spending less now would aallows you to need less in retirement. Doing a reverse mortgage is just another word for cashing in your savings, isn’t it?
Why asset allocation is still important. The paper concludes that financial advisors should focus more on savings rates and less about the complex ETF portfolio they just designed for you. Probably true. However, asset allocation has always been something that we did to help our situation without actually doing the hard work of having to save more. Imagine a pill that we could take to lose weight, while not actually eating less or exercising more.
I suppose we should view designing an asset allocation more as a potential “boost” to our nest egg than the driving force, and realize that earning an extra 1% or 2% a year won’t help if you’re just compounding a small chunk of your income. How much is enough? Studies have found that a savings rate of 16.62% would have worked out well historically.