If you’ve been reading my blog, you know I’m heavy into dividend growth investing. Most of these stocks are well-established blue chip companies and have been paying rising dividends for 25+ years. I follow this strategy because it has historically beaten the S&P, is favorable from a tax perspective, and it provides solid quarterly cash flow. If I run into trouble I can deploy this cash flow to cover my mortgage and utility bills. However, the majority of Americans have no savings and do not invest at all. Even worse, for those who do invest, they rely solely on 401ks and mutual funds. This makes sense as most investors don’t understand the market and are afraid of picking individual stocks. However, following this conventional strategy can lead to lower returns.
The average Social Security check hovers around $1475/month. This is something, but not enough for a comfortable retirement. According to Synchrony Bank, the average savings of Americans in their 60s is a paltry $172,000. Some sites I visited had this figure in the 160s! In my case, I’m in an average to slightly below average income group. However, if I stopped saving today, my current nest egg would be worth $5.9 million at a CAGR of 10% over 37 years. This equals about $1.9 million in today’s dollars when factoring in a 3% inflation rate. So, in my opinion, Americans should be retiring today with AT LEAST $1.9 million. Again, this is for someone with an average income, who only saves for the first 10 years of his/her career.
Obviously the reasons for this shortfall vary. Most individuals with make poor financial decisions or have some kind of obligation that prevents them from saving. Even so, I’d argue the current financial system is also to blame! If investors take a hands off approach and invest in mutual funds, they typically begin by paying an expense ratio of 0.5%-2.5%. And according to a report by CNBC, 65% of large cap mutual funds underperformed over the past 9 years. This may be due to that expense ratio, portfolio turnover, or simply picking the wrong stocks. Essentially, if investors give up their autonomy, they pay a significant price. 401ks themselves also carry with them their own individual management fees. Fees are often charged at a rate between 0.5-2 percent.
With expense ratios, 401k management fees, and underperformance we see a serious reduction in returns. The market typically earns 10% annually, but a poorly run 401k can cut these returns in half. Furthermore, some 401ks even restrict what employees can invest in; allegedly to curtail poor investment decisions. Yes, 401ks do come with tax deductible contributions and a likely employer match. Therefore, it makes sense to invest up to the amount matched by an employer. It also makes sense to take free money but its important to get as much information possible to avoid retirement erosion. For instance, are there low-cost S&P500 index funds available and/or does the plan allow investing in individual stocks. After all, excellent businesses can far exceed market returns and provide a much more prosperous retirement.
DISCLAIMER: I am not a licensed investment adviser or tax professional. I am not liable for any losses incurred by any parties. This blog should be viewed for entertainment and/or educational purposes only. Any transactions published are not recommendations to buy or sell any securities. Please consult with an investment professional before making investment decisions.