And then, standard retirement advice says that you remove some percentage of your nest egg for your living expenses. Depending on the advice, this could be 4% or 5% or even 8-10%. The idea is that your nest egg will continue to grow more than you are removing from it, so that you (hopefully) won't run out of money.
In her book The Big Retirement Risk: Running Out of Money Before You Run Out of Time (Greenleaf Book Group Press, 2012), author and financial planner Erin Botsford says that this strategy is fatally flawed.
Botsford shows examples in the book that show how the standard strategy can go completely wrong. For instance, she gives the hypothetical example of two investors, one who retired in December 1972 and the other retired in December 1973 - only one year later. Both retired with $250,000 in a stock fund and withdrew 5% per year. Using this strategy, the one who retired in December 1972 ended up running out of money in 1989, but the one who retired in 1973 still had $859,000 in the account in 2006.
Why? Because December 1972 was just before a huge stock drop, so the first investor lost much of the value of their account right there. The second investor retired after the huge stock drop.
Botsford describes many of the myths of Wall Street and the economy to make her point: No one knows what will happen to the stock market, so how do you make sure that your retirement is safe - that you won't run out of money too early?
Botsford suggests a strategy that she calls "Lifestyle Driven Investing." She asks her clients and readers to figure out what they want out of retirement - their needs such as food and electricity; their wants such as travel and hobbies, likes such as a vacation home, and wishes such as gifts to charity or an inheritance.
She then suggests different types of investments for each of the categories. Investments for needs are cash-flow driven and very safe; as the categories become less necessary, the suggested investments become more risky but also allow for capital appreciation.
This book really changed my view on retirement investments. It showed me that the investments necessary to create your nest egg are not the same as those necessary to keep you comfortable and worry-free during retirement. Although I have many, many years until retirement, I'll keep these ideas in mind as I create my retirement plans. If you're closer to retirement, this is a must-read for you!
Would you like to read The Big Retirement Risk? It's available at Amazon.com, or check your local bookstore or library.
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