Planning for Retirement: The New Reality

Many investors who pinned sunny hopes on an early retirement only a few short years ago may now have to put those plans on ice. Given the market's lousy performance over the past two years, they're now planning to put in more years of cubicle time than they had expected. A UBS/Gallup survey released in February found that 19% of investors said they might delay their retirements because of the weak economy. On average, they expect to leave the workforce 4.4 years later than they had originally expected. The average expected retirement age of those polled in the UBS/Gallup February survey jumped to 63.8, up from 62.9 in a June 1998 UBS survey.

More evidence of the shift in retirement realities was supplied in a just-released May report from John Hancock Financial Services. Its survey of investors between the ages of 25 and 65 found that half of those without old-fashioned pension plans were facing a savings shortfall of 20% to 30% at retirement, even after factoring in Social Security benefits. The upshot: People are starting to face up to the fact that early retirement may only be a pipe dream.

Some financial advisors report that clients have told them they now expect to work an additional two to five years because of stagnant or negative returns in their retirement accounts. But while plenty of folks are less than thrilled at the prospect of putting in more work time, others may not even realize yet that they won't be able to retire as planned. "My guess is probably some people are not [aware of their savings shortfall] ," says Wayne Gates, general director of market research and development at John Hancock Financial Services. According to survey data, he points out, investors are still expecting unreasonably optimistic returns in the stock market. "They think they could actually contribute less and get there. But a lot of people will be disappointed."

Perhaps it's no surprise that many people seem ill-prepared for retirement, given that a startling number lack even a basic understanding of investments. For instance, the John Hancock survey also found that nearly 80% didn't know that the best time to invest in bond funds is when interest rates are expected to decrease. After back-to-back market declines over the last two years, 10% of those surveyed still said they didn't know they could lose money in stocks. Hancock's recent study of 401(k) participants reports that 35% of investors surveyed still anticipate annual equity returns of 16% over the next twenty years. Additionally, 34% expect an average annual fixed-income (bond) return of 10%.

These rosy assumptions are not only unrealistic, they are dangerous for investors to make when planning and allocating funds for their future. According to Ibbotson Associates, during the period from 1926 to year-end 2001, U.S. equities* earned approximately an 11% annual rate of return. Bonds delivered gains of 6% for the same period. In addition, these returns have not been linear; rather returns occur in a random and choppy manner. Also, yearly domestic inflation costs have averaged at least 3% for the same period.