Shrinking nest eggs: How the ailing economy affects yours
— -- Patty Stewart of Redlands, Calif., is beginning to think she won't be able to retire at 65. Or 67. Or possibly ever.
Like millions of other people, Stewart is counting on her 401(k) and her home equity to pay for retirement. But since the start of the year, the value of her 401(k) has fallen about 4%, and rising consumer prices have forced her to reduce her contributions to it. Meantime, home prices in her neighborhood are off about 25% over the past two years, making it less likely she can rely on her home equity to supplement her retirement income.
"The calculators tell me I'm going to need $1.3 million to $1.5 million" for retirement, says Stewart, 49. "That doesn't seem like it's something that will ever happen."
She might be right. For years, stock investors have been led to expect average annual returns of 8% to 10%. Similarly, many people have assumed that their homes would appreciate by roughly 10% a year.
Both assumptions, though, rest on two decades of outsize returns — returns that were inflated by low interest rates that fueled bubbles in the values of stocks and real estate. Now, many financial analysts are predicting a prolonged period of below-average returns on both stocks and home equity.
If they're right, Americans need to face a sobering fact: They're not likely to have as much money for retirement as they'd projected. Which means that many of us will have to save more, expect less and work longer than we'd planned.
Investors who rely on historical returns for the past 50 years will "probably overestimate what we're likely to see in the future," says Chris Jones, chief investment officer for Financial Engines, a retirement-plan consultant.
"As much as we'd like to say history is a good guide to what the future holds, it's simply not true."
Consider a 45-year-old with $100,000 in savings and income of $50,000 this year.
If that worker contributed 8% of income to his 401(k) plan for 20 years, received an annual raise of 4% and earned an average return of 10%, he'd retire at 65 with $878,862.
By contrast, if his average investment return were only 8%, he'd end up with much less — about $652,000. And if he earned an average return of only 6%, he'd retire with just $486,310.
Greg Womack of Womack Investment Advisers in Edmond, Okla., says overly rosy projections represent one of the biggest pitfalls in retirement planning.
"Any time you look forward and do forecasting," he says, "it's better to do it on a more conservative basis."
That means factoring in an above-average rate of inflation and a below-average rate of return on your investments. "If things turn out better," Womack says, "you're ahead of the game."
Many financial planners say they believe workers who start saving while they're young will still be able to meet their retirement goals.
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