In this article I want to talk about investment mindsets. Specifically the importance of moving away from a “Growth” only mindset to an “Income” mindset with your investments in retirement. Ask yourself the question, “Am I Investing for Growth or Income?”
And, in order to get to the answer you need to understand the difference between investing for future growth and investing for current income.
When you’re in your working years, you have what I call an employee mindset. You get used to earning a paycheck from a job to pay your bills, and you're usually not that worried about the market, or even a crash because you’ve got 20, 30 or even 40 years to save for retirement, you’ve got time to make it up. So investment growth is the main focus.
However, in retirement you no longer get a paycheck from a job, so there needs to be a new focus. You now have to figure out how to create a consistent, reliable income paycheck from your investments... even during volatile stock markets.
Here's the problem. Most advisory firms, like Edward Jones, Merrill Lynch or Wells Fargo are using the wrong investments for their clients, and their idea of generating retirement income from your investments is to just sell off part of the portfolio.
But now you're no longer working, or contributing to your savings, so once you sell part of your portfolio, it's gone and you now have to rely on an unpredictable stock market to hopefully make it back. It can become an endless cycle of income uncertainty and makes a lot of retirees nervous.
There are only a few places your income is going to come from in retirement. For most people it's going to come from Social Security and your retirement savings. That’s why it’s so important to make a shift from a growth mindset to an income mindset, or an employee mindset to a retiree mindset.
However, most retirees still continue to focus only on growth. And one of the main reasons why is because you’re listening to a financial advisor that also has a growth only mindset. Think about it, that’s probably how they got you to join their firm. “Our investments returned X amount last year, and just look at the last 5 years of growth”… they talk about risk tolerance and average annual returns, and the importance of adding more bonds to your mix, to lessen your risk.
If the question of income and withdrawals does come up, they say, “It should be fine, we’ll use the 4 percent rule. As long as you only withdraw 4% of your portfolio each year, you should be ok”. But let’s talk about that for a second, how exactly does that work?
Let me give you an example. Let's say that you follow this advice and withdraw 4% from your investment account to give you the extra income you need to pay your bills. If the market gives you a return of 7 or 8 or 9% or better each year, you are doing just fine. But you know as well as I do that the market doesn't do that every single year. What happens when it goes down 10%? You still need your income, so your portfolio isn’t down 10% it's actually down 14%, and then you need another year of income. So by the end of the next year in order to break even you need to earn approximately 18%. 10% for the market loss, 4 percent for this year’s income withdrawal and another 4% income withdrawal for the next year equals 18%.
But wait a minute, most people don’t calculate their income needs based on a percentage. They calculate it based on a set amount. If this is the case, the numbers can get even scarier, because when the market goes down you’re could be withdrawing way more than 4 percent to make up the set amount of income you need, which makes it that much harder to make it up with market growth.
For example, let’s say you need $8,000 dollars a year from your investments to make up your income gap. Well, on a portfolio worth $200,000 dollars, that’s 4%, so you’re fine. But let’s say the market goes down 10% that next year leaving you with a balance in your account of $180,000. 4% percent of $180,000 is only $7,200, that’s $800 dollars less than you need for your bills. In order to get your full $8,000 dollar income, you need to withdraw almost 4.5%. And in order to get your account back to the original $200,000, you need a return of $28,000 or just over 16%. Can you imagine another 2008, 2009 loss of over 50%? You would need to earn a return of over 100% to just get back to even.
Can you see how that kind of planning can be a dangerous way to generate retirement income for the long-term? You end up in a vicious cycle of income uncertainty because you’re constantly relying on market growth, which is something that you can't control. And when the market is going down and you ask your advisor what should we do… what do they always say? “Just ride it out, it’ll all be ok”. But does that answer make you feel secure? Do you want to be in retirement for the next 20 or 30 years watching the market everyday on tv continually worried about whether or not you can afford to pay your bills, or if you’ll have to return back to work? Or worse, becoming a burden on the people you love.
When we’re talking about withdrawing income from your investments, it’s not just about the growth. The real focus should be, “How can I generate income from my investments, without relying on the day to day performance of the market?” That’s a question from an income mindset, and the answer depends on the kind of investments you choose in retirement.
Are you interested in building an investment portfolio designed to provide you with a retirement paycheck that is predictable, consistent, safe… and has the opportunity to increase every year, no matter what the market does? Reach out to one of our advisors on this network, and we’ll show you how to do it.