Low Rates Cut into Retirees’ Investment Returns
Financial advisors worldwide are realizing that one has to be very rich indeed to enjoy a comfortable retired life.
Principal Globe Investors CEO Jim McCaughan said that “with very low rates, the problem of funding a retirement is much more difficult.”
Retirees are aware that low rates are eating into investment returns and that they have to devise new ways of securing their future. Several investors are waiting for Federal Reserve to start raising rates later in 2015 or early in 2016.
In the meantime, the Federal Reserve is ending its “quantitative easing” program that reduced rates on long-term investments drastically.
But McCaughan feels that the rates will not jump just because of this. He is of the opinion that the low-rate environment will continue to exist for a longer time for two reasons. First, increase in the population of senior citizens leads to increase in demands for low-risk bonds, which will reduce returns and raise prices. Second, the gap between production and demand at the global level is ever on the rise, and this will prevent price rise in the near future. When this happens, rates cannot be expected to increase.
A principal of $1 million can generate income of $60,000 every year provided the return of the portfolio is around 6%. If it is 4%, the income generated would be $40,000 per annum.
However, the amount one actually requires depends on several factors such as cost of living, travel expenses, medical expenses, and longevity.
If the rates continue to remain low, the mathematics of retirement plans will change tremendously. When the baby boomers’ were working, they expected annual returns of up to 10% on their retirement portfolios, which was quite reasonable. $1 million along with pension payments and social security payments was quite enough for most baby boomers to lead a comfortable retired life.
But now, this portfolio will fetch maximum returns of $50,000 every year, which may force retirees to continue working for longer or try to live on lesser funds. Retirees have a third option, that of investing retirement funds on schemes that may fetch more returns, but also carry risks of losing funds.
A way out is to include more stocks in a retirement portfolio. McCaughan advises a mixture of target-date funds, annuities, and securities. Funds can also be cleverly invested in assets such as houses, and working people can save more so that they will have more to retire on.
