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Story Time

A Small Indian Woman

A small Indian woman stopped me in Central Park and asked, “Excuse me, I am coming from the east side and want to get to the west side to West 85th Street.  Can you help me?” She was very fortunate as we encountered each other exactly at a walkway that could lead her out of the park and directly onto West 85th Street. 

However, she had to cross over a road to find the path.  I pointed due west, a 90 degree angle to where we both stood and said, “You only need to cross this road and go straight down that path and you will be on West 85th Street.”  She smiled and looked relieved and said, “Thank you.” We parted company and I proceeded on my way. 

After 15 seconds, I turned around to observe her.  In fact, she was heading due north on the road she had to cross over; she would never get to West 85th Street.  Never, ever, ever! I ran after her, squared off her shoulders to face the path and said, “This is the way to get to where you want to go.” She said, “thank you” and now proceeded on her way. Here is the point of this story. I do not know what people hear when I speak. Even when I think they have understood, it is possible they have not understood.  Unless I check up on them, I won’t know if they are on their desired path.  In order to get them on the path, I might have to run after them and square off their shoulders in order to set them straight; all they have to do is tell me where they want to go and I will make sure they get there.

A New Metaphor for Retirement Financial Planning: Pregnancy

You probably are thinking: Well, that’s a stretch! But my purpose, here, is to highlight a vulnerability in your retirement savings/investment account. It is a vulnerability that cannot be entirely avoided; but it can be understood and managed.

Monthly increments of growth during pregnancy can be viewed as a metaphor for the decades of growth of a portfolio. In terms of time, the ratio is about nine
to five: Each month of pregnancy equates to five years of growing your retirement account.

For the first few months of a pregnancy, you don’t notice much change. But by mid-term—say, year 15 of your retirement savings--you can’t help but notice change. And that is exciting! You are moving forward.

“Mitosis” is the biological miracle of multiplying; compounding is the financial multiplication of wealth. Just let nature divide and multiply; just let time and consistent contributions compound your account. It begins to feel as though growth of your retirement account has become natural, automatic. Over 30 or 40 years, you have checked the box to authorize contributions to your retirement plan--and there it is.

Yes, while you are working and contributing, the process can feel as natural as carrying a child to term. (Men, if this discussion does not seem quite applicable, choose your own metaphor. How about the seamless transition from baseball season to basketball season to football season?)

And so, just like that, you are at full term, retired. Like the progress of a pregnancy, the progress of saving comes to a halt. Suddenly, you are the legal guardian of your portfolio. Your priority, your focus, is to keep it safe. And that is a very different role than that you have been asked to play for literally decades.


Okay, but what’s the worry? Well, for one thing, there are no automatic deposits into your account: no more automatic growth. For another thing, there will be systematic withdrawals: progressing, in a sense, in the opposite direction. And,lastly, the financial markets, typified by the random fluctuations of the stocks, are unpredictable, always complex, and often abrupt. You have the highest hopes, as you do for your children, but, in the end, a vulnerability to factors beyond your control. Your portfolio can seem to take on a life of its own.

Changing direction from contributing to withdrawing (one and two above) are obvious, no surprise. But the randomness of financial markets, including stock market returns, is the ever-present threat to the lifespan of your portfolio. It is not easy to grasp the shocks that randomness can deliver unless you are a financial professional who has watched the career not of one portfolio but hundreds.

When you were contributing to your portfolio, not taking any distributions, you experienced a sequence of returns over, say, the 30 years you contributed. That is, your portfolio gained or lost year by year.

Let’s say your started with $10,000.
Year 1 +10%=$11,000
Year 2 +15%=$12,650
Year 3 -5%=$12,017
Year 4 -7%=$11,176

Now reverse the order of the annual gains or losses in the portfolio.
Year 1-7%=$9,300
Year 2-5%=$8,835
Year 3 +15%=$10,160
Year 4 +10%=11,176

As you can see, the order or sequence of growth or contraction of your money, the annual returns on your portfolio, does not impact the dollar amount of the final outcome. The sequence does not matter so much while you are growing money in the womb-like environment of your plan. Just keep adding money and let time do the rest. Interim declines are forgotten as gains roll in.

Now, let’s look at what happens when you withdraw from your portfolio each year. To keep the example simple, we will take $2,000 per year. The dynamics of  withdrawal, of course, apply equally whether your withdrawal is $20,000 or $200,000 per year.

Example #1.
10,000+10%=$11,000-$2,000= $9,000
$9,000+15%=$10,350-$2,000=$8,350
$8,350-5%=$7,932-$2,000=$5,932
$5,932-7%=$5,516-$2,000=$3,516

Example #2
$10,000-7%=$9,300-$2,000=$7,300
$7,300-5%=$6,395-$2000=$5,300
$5,300+15%=$6,095-$2,000=$4,095
$4,095+10%=$4,504-$2,000=$2,504

At the end of four years, example #2 leaves you with 30% less money than example #1. Project the same examples over the 25 or 30 years of your retirement, using actual real returns from the market, and the disparity between the two outcomes can be a shock.

The damage of early negative returns in example #2 can cause your retirement portfolio to expire long before you do. The benefit of positive returns early in example #1 can add literally decades of life to your portfolio.

To return to our metaphor: As parents, we may go along thinking that the years of childhood will be as predictable as the months of pregnancy. They are not, of course, and, on some level, we know that. And the financial markets can be seen as the most unruly child of all. We may love their unpredictability, their tendency to make us cheer or groan. And it is true that the investment--the asset class--that has the healthiest long-term growth is stocks.

So, how can you enjoy the unpredictable rewards of the stock market but manage
the risks?

We have two suggestions.

1. Consider purchasing an annuity from an annuity company that can provide guaranteed* income to you and your spouse for as long as either of you lives. One strategy is to calculate the anticipated fixed costs during your retirement and to ensure those costs are covered out of the cash flow from the annuity. Your calculation can take into account inflation, too.

2. Take your distributions from your stock portfolio at the end of each year, when you know what your gains and losses have been that year. If your decision is to withdraw gains, but preserve your principal, you will need a source of cash if your stocks have had losses during a given year. That source (or “surrogate” for cash) could be a bond portfolio. Or, it could be a cash-value life insurance policy from which you can withdraw or borrow.** Also, if you've included whole life insurance as part of your protection planning, you may want to consider accessing available cash value to supplement your retirement income.

The latter involves planning because the longer you own a cash-value life insurance policy, the more cash reserve will be available to you. In effect, that cash buys a rest period for your stocks when they are struggling—a good nap for a year may be all that they need.

When they wake up, take that extravagant vacation! Maybe take your grandchildren with you!