At Marketwatch, columnist Robert Powell has some commentary on a recent article by Dan Ariely about asset allocation and retirement expectations. For me, one of the interesting things was the way in which Mr. Ariely quantified retiree expectations:
But according to research conducted by Dan Ariely, people need 135% of their final income to live the way they want in retirement. The reason for this astounding difference has to do largely with the way Ariely, a professor of economics and behavioral finance at Duke University, did his research.
Instead of asking people to ballpark how much of their final salary they will need, he asked the following questions: How do you want to live in retirement? Where do you want to live? What activities do you want to engage in? And similar questions geared to assess the quality of life that people expect in retirement.
Ariely then took the answers and “itemized them, pricing out their retirement based on the things that people said they’d want to do and have in their retirement.” Using those calculations, he found that people want to retire to a standard of living beyond what they currently enjoy. (Who wouldn’t if money were no object?) Read Ariely’s blog post on the topic here.
When retirees’ desires were actually priced out, they clearly desired to have their standard of living increase! It takes a lot of capital to do that, capital that most retirees do not have. The old rule of thumb was that retirees needed 70% of their working income to retire. But no one knows who came up with that number or how they ballparked it!
Having spoken with many advisors over the years about this topic, my experience suggests that a more realistic estimate is that clients are comfortable when they have closer to 100% of their working income when they retire. Some expenses do go down, but other expenses, particularly travel and healthcare, tend to go up.
In some cases, when expenses go down, it’s not voluntary! Expenses go down because they have to—the retiree simply does not have enough income and is forced to cut back.
The retirement predicament really cries out for advisors to get to their clients early, get them started on a savings plan, and stay very focused on their investment performance throughout their working careers. It’s going to be tough to meet goals otherwise. The best time to get started is when you take your first job. The second-best time to get started is today!
