Taking Into Account The What-Ifs When Planning Your Retirement

Includes: DEM, EEM, FRN, JNJ, KO
by: Doug Carey

Why does it seem like planning for retirement has become so much more difficult in the past five years? So many folks approaching retirement are scrambling to figure out how much money will be there when they retire, whether or not they actually can retire before they’re 65, and if they’ll run out of money before they leave this earth.

Of course, the main reason it has become so much more difficult for many people is the collapse in equities in 2008 and 2009 along with historically low interest rates. Many people, as well as financial advisors, used to plug in return assumptions that would seem impossible today: Perhaps 8% for equities and 4% to 6% for fixed-income. Those were the days!

Using more realistic returns in today’s world, a lot of us have seen our retirement situation change markedly. Not only that, those approaching retirement are finding out that they were using assumptions that were too simplistic. They ran some numbers, either on their own or with a financial planner, and simply plugged in their investments, some return assumptions, and a best guess at annual expenses. But what many do not think about is the what-if scenarios. Do I need to pay for long-term care insurance? What if I have a large medical expense? What happens if social security is reduced? And what impact would a reduction in my total return assumptions have?

Let’s look at these scenarios I’ve just described. I ran the following scenarios in our Retirement Planner. Readers can also perform some of this analysis, such as changing expenses, social security, and taxes, using our free financial planning tools. The husband and wife in this example are currently 55 years old and they plan on retiring when they’re 65. They plan on spending $50,000 per year in retirement. Inflation is assumed to be 2.5% and their combined social security payments will be $25,000 per year. Lastly, the scenarios below are not cumulative. Each one is separate from the others.


Age When Money Runs Out

Total Investment

Value at Retirement

Base Case



Long-Term Care

Ins. ($5,000 per year

starting at age 60)



Large Medical

Expense ($50K at age 75)



Social Security Payments

are Reduced by 20%



Total Returns Reduced

by 2% Before Retirement



Total Returns Reduced

by 2% Before and

During Retirement



Interestingly, the recurring expense of long-term care insurance is actually much worse for this couple’s retirement situation than a large medical expense of $50,000. If social security payments are reduced, this couple will see their money run out four years earlier than they initially expected. The worst scenario for them, however, is total returns on their investments not being what they originally had hoped for. The original assumption was 6% returns before retirement and 4% during retirement. If these assumptions are off by 2%, this couple will see their money run out a full 11 years earlier than they had originally thought.

Over longer time frames nothing has more of an impact on a person’s retirement portfolio than total returns. That’s why it is so important to have a good strategy early on when it’s more appropriate to take more risk in order to gain a higher total return. For those who are not near retirement yet, I am a big proponent of taking on more risk in one’s tax-deferred accounts where you don’t have to worry about withdrawing money for years. This includes low cost emerging markets ETFs such as DEM and EEM. Investors now even have access to “frontier” markets via ETFs, with vehicles such as FRN. A good portion of my IRA is in emerging markets simply because I know I can’t touch the money for years so the higher volatility of emerging markets don’t cause me to lose any sleep at night

I also believe it is extremely valuable to put together a basket of solid dividend paying stocks, such as Coke (NYSE:KO) and Johnson & Johnson (NYSE:JNJ), which have consistent and relatively high dividend growth over time. I discussed this recently here.

It is important to sit down and come up with these types of what-if ideas when planning out your retirement. It’s better to figure it out now than to be surprised later.

Disclosure: I am long DEM, JNJ, KO.

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