June 2001 Bulletin

Can you afford to retire?

Need to minimize risk, keep pace with inflation

By Joel M. Blau

"Now is not the time to think of what you do not have. Think of what you can do with what there is." This poignant quote from Ernest Hemingway holds as true today during the recent stock market volatility as it did when it was written. It seems that more and more of your colleagues are retiring early or are at least thinking about it; you are witnessing a major shift occurring in the medical community. A recent survey by the medical staffing firm of Merrit, Hawkins and Associates concluded that 38 percent of physicians just beyond the age of 50 plan to retire within three years. If that forecast holds water, more than 100,000 physicians will be retiring over the next three years.

If you’re struggling to determine whether you have sufficient assets to retire, you are certainly not alone. The first question that must be addressed is whether your financial assets will provide sufficient income for the rest of your life. The unknown variable of mortality makes for a somewhat difficult assessment. If you were to rely on government statistics, a 65-year-old man can expect to live about another 16 years, and a 65-year-old woman about 19 years. While these figures represent only averages, it’s still obvious that a retiree’s investments will need to minimally keep pace with inflation.

Much has been written about the many different methods of investing for retirement income. Some believe that from an asset allocation standpoint, there should be a shift from growth investments to income generating investments such as CDs, bonds or bond mutual funds. Others feel that due to inflation concerns, growth remains an ongoing objective, with the ability to sell investments to meet retirement income needs.

While the inherent risk of a portfolio deserves some attention, the returns of the stock market over time compared to bonds cannot be ignored. Even with last year’s dismal market returns, the companies that made up the Standard & Poor’s 500 Stock Composite Index at the end of 2000 have posted an average annual return of 11 percent over the past 75 years. That is about twice the rate of return of five-year U.S. government bonds and three times the return of 30-day Treasury bills. However, to avoid exposure to fluctuating markets, many individuals approaching retirement assume they must eliminate all investment risk by moving into CDs and living off the interest. While it protects you from market fluctuations, this strategy does not address the impact of inflation.With an inflation rate of 4 percent, purchasing power is cut in half over 18 years, while at 5 percent it only takes 14 years.

Being too aggressive increases the potential of capital losses while over conservativeness may put inflation adjusted income objectives out of reach. The proper allocation will depend on your time horizon and risk tolerance. Keep in mind that living off of interest only and not spending principal may simply lead to a higher estate tax liability at death.

Individuals who subscribe to the bumper sticker motto, "I’m spending my children’s inheritance," may benefit from holding a diversified portfolio of stocks, bonds, and cash (CDs) and withdrawing a set dollar amount or percentage every year regardless of the actual rate of return. You might have to dip into principal to supplement income while the market is down, but during strong market years you’ll be reinvesting, thus potentially increasing your principal.

Obviously, each situation is different and depends on the amount saved as well as income and age objectives. Be sure to consult proactively with your financial advisor to determine your best course of action.

Joel M. Blau, CFP, is president of MEDIQUS Asset Advisors, Inc.

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