Wall Street Says You CAN Retire
There is so much talk about saving for retirement that you may come to believe it is possible, with the right habits and discipline, that a comfortable retirement is possible for everyone. The truth is that maybe 20% of the population can retire in the traditional sense (i.e. live off of past savings). The reason you see so many articles about retirement savings is that Wall Street is very good at feeding information to the press and the press repeats it. Let's take a fast look at how Wall Street works before we continue.
Wall Street is interested in "money under management." For example, mutual fund companies are interested in gathering as much assets as possible from the public because the fund industry charges 1% or more (you need to read the prospectus to see all of the charges) to manage your account. You pay that fee whether you make money or not. So large brokerage firms such as Merrill Lynch and Ameriprise hire tons of financial planners that help you plan for retirement.
What these people actually do is gather your assets for their firms to place under management. The planners that gather the most get paid the most. Therefore, it is a Wall Street mantra that anyone can have a comfortable retirement if they would only save enough (i.e. give them your money). But the facts do not bear this out.
The Numbers Say You Cannot Afford to Retire
For the analytical types, I offer some figures.
Let's take the case of John, my hypothetical college graduate. I have assumed that John graduates from college and gets a job with a starting salary of $60,000. John does much better than average as the National Association of Colleges and Employers reports that the average starting salary for the graduating class of 2012 was $44,259. But I want to show that even someone who does better than 80% of others can barely make it in retirement.
John is unique in some other ways. He gets a 3% raise each year so by the time he reaches age 65, he is earning nearly $214,000 annually. He also saves 10% of his income each year. This is highly unusual as the U.S. savings rate has not been this high since May of 1985. Clearly, John is an unrealistically positive example of an earner and saver but let's see how he ends up. At age 65, he has accumulated over $1.6 million. Assuming 3% average annual inflation, that amount purchases the equivalent of $711,000 in today's dollars (my spreadsheet is here).
One other aspect about our hypothetical John is unique. I assume he earns a continuous and constant 6% annually on his savings with no setbacks or draw-downs. His capital increases every year by 6%. Yes, this is unrealistic as I intend to create an unrealistically positive scenario and show that these positive assumptions will still not be sufficient to create a comfortable retirement.
John's nest egg of $1.6 million is a lot bigger nest egg than most people accumulate. But using a rule of thumb that many can argue with of a safe 4% annual withdrawal rate from a retirement nest egg, John has $28,440 of purchasing power (4% x $711,000 of present value). In any major city, that is not enough to get by. He might be comfortable in Alabama, but we see that even a very fortunate person, earning a constant 6% annually on his high rate of savings still cannot cut it in metropolitan areas.
I am not telling you not to save your money. I am not telling you to abandon retirement planning. I am telling you that a traditional retirement where you sit back and do nothing and live off your nest egg is highly unrealistic. You will need to have a business, a part-time job, real estate investments or other sources of income after the traditional retirement age of 65. Or, move to Alabama.