9 rules of thumb to ensure you save enough money for retirement
Saving for retirement is of utmost importance, and as the population ages and life expectancy increases, it becomes even more crucial to secure financial stability during one’s golden years.
With the current economic climate and uncertainty around pension funds, relying solely on state benefits may not be sufficient. By saving for retirement, individuals can create a financial safety net, ensuring a comfortable and independent future.
Retirement savings provide a means to maintain a desired lifestyle, cover medical expenses, and pursue personal interests after you exit the labour force.
According to Chief Investment Officer at PSG Wealth, Adriaan Pask, an early start is at the heart of achieving sufficient financial resources for the lifestyle you desire for yourself and your family.
Considering the growing importance of prioritising retirement, Pask summarised nine rules of thumb to keep in mind to ensure a healthy financial future:
#1 Plan to reach 100 years old
According to Pask, it’s crucial that people realise that they’re likely to live longer than they think.
Many studies have found that advances in medicine, technology and overall quality of life have resulted in the average person’s lifespan increasing by about three years for every ten years that pass, said Pask.
By the time a person turns 85, they will require additional savings to survive until the age of 105. However, the current pension system and retirement age in South Africa means that people tend to have less time to save enough for a longer retirement, he added.
The World Economic Forum expects a massive shortfall (US$80 trillion) in retirement funding among retirees globally by 2025 because many are underestimating how long they will live and how much money they will really need in retirement.
The table below shows the chances of reaching your 100th birthday at the age of 65 (retirement), according to Sanlam.
| Chance of survival | Single men (65 years old) | Single women (65 years old) | Couple (65 years old) |
|---|---|---|---|
| 50% | 85 years | 89 years | 94 years |
| 30% | 91 years | 95 years | 99 years |
| 25% | 93 years | 97 years | 100 years |
| 20% | 95 years | 99 years | 102 years |
| 10% | 100 years | 104 years | 106 years |
#2 Consider inflation
According to Pask, protecting your savings against inflation is crucial.
Assuming South African long-term inflation averages about 6% per annum, you, in essence, start every year with minus 6% and need to ensure that you invest in such a way that you can recover that 6% and then grow the real value of your savings on top of that.
For example, if a balanced portfolio offers a return of 11% per year, the real growth only equates to about 5% a year.
#3 Start early
When you do not add to or grow your savings, your required savings rate doubles every decade, said Pask.
A person who retires at age 60, has a life expectancy of 85 years and has a required real return of 5% (as the previous point mentions) should save 12.50% from the age of 20, but that rate roughly doubles every ten years.
The longer you delay, the steeper the climb. In the words of H. Jackson Brown Jr., “The best preparation for tomorrow is doing your best today”. Start early to lessen the load.
Assumed retirement at 60, life expectancy of 85, ROE of 11%, inflation of 6%, 100% replacement income.
#4 Know where to get ‘bang for your buck‘
Investments need to have exposure to growth assets like equities to counter inflation, noted Pask.
“Equities have historically delivered better returns than other asset classes.
“This is because the impact of short-term market downturns weakens when staying invested for ten years or more. Data also shows that equities have offered the best real returns over longer periods,” he said.
The graph below shows the average Nominal returns (before inflation, fees and taxes) of several asset classes.
#5 Being overly conservative can be a risky strategy
Pask noted that not all asset classes are engineered to protect savings against inflation.
For example, cash is a great way to cater for short-term income needs but is the weakest guard against inflation, said Pask.
A portfolio that consists solely of cash is all but guaranteed to underperform inflation after fees and taxes. As a stable asset class, it may provide short-term comfort; but over the long term, the opportunity cost is significant.
The graph below shows the average real returns (after deducting 6% inflation and before fees and taxes) of several asset classes.
#6 Compound interest is your greatest ally
Over the short term, it may not seem like the difference between 7%, 8%, 11% or 15% is all that much, but these differences grow and compound over time.
By way of example, a R100 cash investment that grows at 7% would grow to R387 over a 20-year period, whereas an equity investment growing at 15% would be worth R1,637.
#7 Risks reduce over time
Although equities can be volatile over the short term, they move closer and closer to their long-term returns as time passes, said Pask.
“Thus, the returns can vary greatly over a short-term period, but the range of possible outcomes reduces as time passes. Use time as your protection against uncertain outcomes,” he said.
The graph below shows how risks reduce over time.
#8 The plan is the map, and the map is sacred
Planning and preparation are integral parts of wealth creation.
When markets turn volatile (as they often do), it’s important to recognise that these events have already been factored into the plans a financial advisor has prepared for you, noted Pask.
“We view these events as a natural part of the journey, a proverbial hump in the road,” he added.
#9 Take advice
Investors who heed the advice of professional financial planners have a better chance of reaching their investment goals, warned Pask.
Research from Morningstar, titled ‘Alpha, Beta and now Gamma’, argues that investors can generate better returns by having a sound investment plan and sticking to it.
The research concludes that the retirement income for a hypothetical investor would be nearly 23% higher if they made use of a financial adviser.
Read: SARS is coming after trusts in South Africa – and their beneficiaries
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