Retirement Portfolios
Four Strategies for Success
This article focuses on the four most important factors that will help
ensure your retirement funds are optimized for success.
By: Susan Mallin, Certified Financial Planner
Contact [email protected]
416- 485-0303 or 1-866-876-9888
Susan Mallin is a Certified Financial Planner and Chartered Investment Manager with over 17 years of
experience. She is also knowledgeable in cross border issues for US citizens living in Canada, as well as
Estate Planning for Canadians.
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Retirement Portfolios, Four Strategies for Success
Introduction
Many of us are saving for retirement or are already retired and living off our savings. Regardless of where you are
in the process, the biggest headwind that you face is the rising cost of living. If you are currently in the saving
stage, you will need to increase your level of savings each year just to keep pace. If you are already retired, you
need to increase the amount of your withdrawals each year to keep up with rising expenses. In either stage, there
are key strategies you can employ to make the process easier and the outcome more favorable.
This article focuses on the four most important factors that will help ensure your retirement funds are optimized
for success.
First, let's look at a few points on the cost of living. Today, $50,000 is simply $50,000. Generally, we have an idea
of what this amount is worth in consumption terms – such as a car, tuition costs, house renovations, etc. When
we look to the future, however, we must take into consideration the rising cost of living over the years. Many
people are shocked to learn that the buying power of $50,000 in 2013 is equivalent to the buying power of
$35,000 from just twenty years ago! This is a 43% increase in cost, despite twenty years of a low inflation
environment, where the average inflation rate was 1.84% (a figure that does not include food and energy
inflation).
Now fast forward twenty years. A person comfortable living with $50,000 in income today, will need $72,000
twenty years from now using the same relatively low average inflation rate as the previous twenty years, just to
keep pace.
Now imagine how much additional money would be needed if a period of high inflation returns. For instance,
during the twenty year period between 1973 and 1993 the average rate of inflation was 6.69%. Simply put, what
cost $50,000 in 1973 would set you back a staggering $182,000 twenty years later! It is entirely possible, and
indeed likely, that you will need more than $72,000 to buy $50,000 worth of goods in twenty years from now.
The Four Factors You Need to Know
The most effective strategy to protect against the rising cost of living is to invest your money correctly. There are
ways to increase the likelihood that a retirement strategy works. Here are the four main factors that impact the
success (or failure) of your retirement strategy, listed in order of importance: 1) performance 2) costs 3) quality
of investment selection 4) asset allocation.
You may have heard that asset allocation is the most important factor, yet I have listed it last. It certainly is a
crucial risk factor, but when dealing with retirement portfolios, there are two stages: a savings stage, followed by
a distribution stage. This two stage process makes matters more complex. Therefore, we will look beyond the
basic asset allocation and other “rules of thumb” generally expounded by mainstream advisory channels. These
advisory channels are not necessarily experts in financial planning.
CSI Global Education Inc., acclaimed experts in advanced retirement strategies, back-tested multiple model
retirement portfolios, each showing varying probabilities of success or failure. Success was defined as meeting
financial retirement goals until life expectancy, and failure was defined as running out of money too early. Their
findings determined that each of the four factors impacted the success of a retirement strategy, with the degree
of importance to its overall success defined in percentage terms.
The Four Factors You Need to Know– in ascending order of importance
4) Asset Allocation 7%
Asset allocation is the balance between bonds and equity investments in a portfolio. Most people believe that
bonds are safer and more conservative, and you may have heard that as you get older, you should re-balance
your portfolio toward a larger weighting in bonds. Mainstream advisory channels propose this basic formula: “100
minus your age = the % of equities you should have in your portfolio”. However, this is not a rational investment
strategy for several reasons. First, you would have to change your asset allocation once a year, which is far too
often. Even more importantly, the formula assumes that as a person ages, their risk tolerance decreases each
year and, therefore, should take an increasingly conservative stance. I have worked with many older clients, and
can attest that the decreasing risk tolerance assumption is often false, especially those who have decades of
investing experience. Instead, asset allocation decisions should be dependent on an investor's projected
withdrawal rate (income desired from the portfolio once the investor is retired). Of course, too high a withdrawal
rate can ruin the longevity of the portfolio, regardless of the asset allocation. Partially due to the inherent danger
of varying withdrawal rates, the CSI study only attributed 7% importance to asset allocation for the success or fail
probability of a retirement portfolio once retired. 7% may seem quite low, but this figure was determined by one
of the most thorough and recent studies conducted on retirement portfolios, by the leading experts in the field,
and one which paid particular attention to both the saving stage and the distribution stage.
The best way to determine an investor’s optimal asset allocation is through personalized financial planning, not
“rules of thumb”. A thorough financial plan helps determine the best asset allocation during both the savings and
distribution stages. This will, in turn, calculate a sustainable withdrawal rate once the portfolio reaches its
distribution stage, and with the least statistical probability of failure.
3) Quality of Investment Selection (QIS) 22%
This may come as a surprise to many of you, but Quality of Investment Selection (QIS) is not the most important
success factor of a retirement portfolio. QIS is ranked much higher than asset allocation, as 22% of the success or
failure of retirement portfolios are attributable to this factor. Back-testing studies have shown that good quality
investments will decrease in value, at times, just like bad investments, although they are more likely to recover.
As we all know, the markets can move in an irrational fashion. Even if we own the highest quality investments, we
are still at the mercy of the market and its volatility, which is something beyond anyone’s control. Additionally,
while QIS may be the only concern to astute investors, such as Warren Buffett, we must realize that investors like
him invest with a time horizon much longer than his own life span. For the rest of us, retirement portfolios have a
shorter life span and must eventually supply a steady income, leaving us exposed to another risk known as “the
time value of fluctuations”. This occurs when you need to liquidate an asset for cash flow requirements, but the
market is down.
This is the predominant reason for QIS contributing 22% to the overall success ratio of a retirement portfolio.
2) Costs 26%
Management fees or commission charges vary in amount, depending on what type of products are bought and
what type of advisor/manager one hires. Fees accounted for 26% of the success or fail ratio in the CSI study.
Studies have shown that a 1.5% reduction in investment costs can make the difference between having enough
money throughout a long retirement, versus running out of money too early. In a hypothetical study case that I
conducted, a retired couple ran out of money at age 80, instead of age 91, simply because they paid higher
investment fees. However, even by age 75, they would have realized this new looming financial reality and would
have started to feel the enormous stress resulting from the faulty course they were on. By shaving 1.5% in fees, a
$500,000 portfolio can be worth an extra $331,648 in a twenty year time frame, using the same rate of return.
That's 66% more in your pocket.
Since many fees are imbedded and out of sight, most people do not know the fees they are paying, either for
investment products, advice or both. However, your costs can be ascertained by doing a study of your holdings
and converting percentage costs into dollar figures. Many people are quite surprised to learn how much they
have been paying when the costs are broken down into real dollars. Most investment counsel firms (like ours)
charge transparent fees that are typically much lower than the traditional route of investing. This often shaves
that crucial 1.5% off fees, while at the same time upgrades the quality of investment selection (QIS). However,
many investment counsel firms have high minimum asset requirements, starting from $500,000 or even
$1,000,000 and up, leaving many people unable to access these types of firms. Steinberg Wealth Management
Inc. offers lower minimums, starting at $150,000, as well as lower fees, much lower, than mutual funds, the worst
culprits for hidden fees in the industry.
1) Performance 46%
CSI attributes 46% of the success or fail ratio of a retirement portfolio to outperforming the market, making it the
most important factor in planning for your retirement. The study defined ‘outperformance’ as beating the market
by 2%; ‘median’ as performing similar to the market; and ‘underperforming’ as trailing the market by 2%. The
back-testing was conducted on the Canadian and US equity, as well as bond markets. Similar to the previous
example on the impact of paying high fees, underperforming portfolios ran out of money much earlier.
The percentage performance gain on retirement portfolios over time is often attributable to being in the right
market at the right time. Said differently, avoiding long-term bear markets will keep you out of trouble. An
investment manager’s ability to find good markets on a global scale, combined with QIS, will increase the
outperformance factor.
It is important to understand various economic trends and how they can affect markets, and thus performance.
You may be familiar with the term “the lost decade” in reference to the U.S. equity markets. Ever since the March
2000 technology sector bust, the US market experienced some violent swings. The end result has been a sideways
moving market. The returns over a 15 year period for the S&P 500 are 1.9% annualized (in Canadian dollars).
This includes dividends, but not fees! During the same time frame, emerging markets were on a long upward
trend. Canada, which benefitted from demand for its vast resources also experienced a long bull market.
Remember when gold was $300 in 2001 versus $1300 today? Also, recall 1999, when people were trying to catch
the technology wave, yet oil prices averaged $16, in comparison to being over $100 today. However, back in
1999, as people were trying to catch the technology wave, many did not want to talk about any investment unless
it had a “dot com” behind its name. Long-term bonds have also have been a great investment, especially if they
were purchased twenty years ago. However, today, purchasing those same long-term bonds could be the
equivalent of buying into the tech sector at the end of 1999. Does that mean investors should not buy bonds
today? Of course not. However, it means that quality selection, time to maturity, and yield will make all the
difference. It is sort of like the difference between having bought Google or Nortel.
Conclusion
If you want to make the best choices for your retirement portfolio and increase the probability of success in
reaching your goals, the best strategy is to incorporate all four factors:
Get a financial plan to determine an optimal asset allocation and sustainable withdrawal rate for your
specific situation
Stop paying high fees for underperforming products/advice - do not wait too long to move.
Enhance quality investment selection (QIS) by hiring experienced managers who conduct thorough research
Hire a manager who has access to global markets in order to provide diversification that offers the best
value and long-term performance potential
Those who want to explore new and better options for their investing and retirement
needs can start with a complimentary financial plan, simply by contacting me. Financial
plans can be done in person or by telephone using a virtual meeting format.
Best Regards,
Susan
Contact information
Email: [email protected]
Phone: 416- 485-0303 or 1-866-876-9888
Susan Mallin is a Certified Financial Planner and Chartered Investment Manager with over 17 years of experience.
She is also knowledgeable in cross border issues for US citizens living in Canada, as well as Estate Planning for
Canadians.
This document is prepared for general circulation to clients of Lorne Steinberg Wealth Management (LSWM) and is provided for information purposes only. It is not
intended to convey investment, legal, tax or individually tailored investment advice. All data, facts and opinions presented in this document are based on sources
believed to be reliable but is not guaranteed to be accurate, nor is it a complete statement or summary of the securities, markets or developments referred to in the
report. This is not a solicitation for business. Past performance is not a guide to future performance. Future returns are not guaranteed. No use of the LSWM name or
any information contained in this report may be copied or redistributed without the prior written approval of LSWM.
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