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Carla Fried: Online retirement calculators — handy and potentially dangerous

Carla Fried, on

Published in Home and Consumer News

Online calculators make it easy to chart your retirement savings progress. Plug in what you've saved so far, your expected Social Security and pension payouts, and the free tools will spit out an estimate of how much income you can expect in retirement.

But for anyone within 10 or so years of retirement, those calculators may be too optimistic.

All retirement calculators are pre-set to an expected rate of return. The calculators rely on long-term historical return averages, some dating back to the 1920s. As far as assumptions go, this makes perfect sense. If you are in your 20s or 30s and have decades to go until retirement, relying on the long-term averages is rational.

But you need to be extra careful if you are closer to retirement. Given that we are in year 10 of a bull market that has pushed stock valuations into pricey territory, the chances of the next 10 years being as profitable as the past 10 are, well, sorta slim. Research Affiliates (RA), a financial firm whose strategies are currently used to manage nearly $200 billion, each month publishes its deep dive into expected returns.

Large-cap U.S. stocks had an annualized return of nearly 15% over the past 10 years, according to RA. Based on where valuations are today, and expected earnings growth estimates and inflation, RA expects median returns over the next 10 years to be 2.6%.

A portfolio 60% invested in stocks and 40% in high quality bonds produced an annualized return of 11.4% over the past 10 years; RA says the expected median return for a 60/40 portfolio over the next 10 years will be 2.5%.

Given the much lower expected returns, anyone nearing retirement might benefit from giving their retirement planning assumptions a stress test.

For example, Vanguard's retirement income calculator defaults to a 5% expected rate of return. Totally reasonable, based on historical return trends. But perhaps a bit optimistic for the next 10 years. Someone 55 today with $500,000 saved for retirement could have about $2,000 a month in sustainable monthly income based after a 5% rate of return. If the portfolio grows at 2.5%, the reliable monthly income stream would be around $1,600. (Note: This example does not factor in Social Security, any pension income or future contributions beyond the $500,000.)

BankRate's tool is set at an even more optimistic 7% annualized return.


To be clear, the default settings for retirement calculators are not "wrong" or intentionally misleading. If you're building a tool for the masses you need to make assumptions, and using the long-term historical average rate of return is logical.

But you are you, and your planning -- if you are within 10 or so years of retirement -- should be based on a careful tweak of return assumptions.

So, plug in lower returns to reflect your actual asset allocation. If that changes your outlook, you've got time to adjust. The biggest lever is to save more. In 2019 anyone at least 50 years old can contribute up to $25,000 to a 401(k) and $7,000 to an IRA.

Curbing your spending today can also be a big help. It can free up more money to save, and if your living costs are lower today, that should enable your living costs in retirement to be lower as well, which puts less stress on your savings. And waiting to claim Social Security until age 70 can boost your rest-of-life income substantially. covers the worlds of personal finance and residential real estate.

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