In The Essential Retirement Guide, author Fred Vettese argues that the widely accepted retirement income target of 70 percent of final pay is too high. A more realistic retirement income target, according to Mr. Vettese, may be closer to 50 percent and in some cases could be as low as 35-40 percent (i.e. for couples who spent a considerable amount on housing and child-raising throughout their working years).
The book offers a contrarian’s perspective on retirement. It looks at a number of personal consumption scenarios for singles, couples, couples with children, high-income earners, and low-income earners. Personal consumption is what’s leftover after retirement savings, employment costs, income tax, mortgage payments, and child-raising costs.
Retirement Income Target
Couples that never raised children or paid a mortgage, for example, tend to spend more on themselves during their working lives and naturally want to continue doing so after retirement. This group is more likely to have a retirement income target of 70 percent.
Conversely, couples with above-average income that have paid a mortgage and raised children will have spent less on themselves. Their retirement income target will be closer to 50 percent.
Mr. Vettese goes on to define personal consumption in greater detail. It includes:
- Food
- Rent (if one does not own)
- Home maintenance costs including insurance and property taxes
- Household furnishing and equipment
- Clothing
- Transportation costs, including insurance
- Health care and personal grooming
- Travel
- Recreation, hobbies, and entertainment
- Education
- Alcohol and tobacco
- Gambling
- Insurance (but not whole life)
Not included are expenses related to one’s children, retirement saving, mortgage payments, employment expenses, gifts of money, and income tax.
Curious, I looked at our own personal consumption this year and found that we spent about 44 percent on those items. Meanwhile, mortgage payments made up 10.5 percent, retirement savings 24.5 percent, taxes and other employment costs were 14.5 percent, and the remaining 6.5 percent was spent on kids’ activities and RESP contributions.
With our car completely paid-off next year our personal consumption will dip to 39 percent and our savings rate will rise to 30 percent.
Vettese preaches moderation in both one’s saving and spending habits so as to avoid periods of unnecessary financial deprivation either before or after retirement. That means finding something in-between the early retirement extreme saving ant and the YOLO live-in-the-moment grasshopper.
“Ideally, you want to save in such a way that you avoid extreme highs and lows in your personal consumption.”
Final thoughts
We’re told we need to save 10-20 percent of our income each year over our working life to be able to retire with a 70 percent pension. The financial industry – bloggers included – fixates on the need to amass a huge retirement nest egg at any cost.
Vettese argues that saving for retirement is a two-dimensional problem. The forgotten second dimension is the pre-retirement period where disposable income has to be sacrificed to feed the post-retirement income monster. The more you save in a given year, the less you have left over to spend, and vice-versa.
Related: What is a safe withdrawal rate in retirement?
The Essential Retirement Guide takes a deep look into the pre-and-post-retirement spending patterns of a wide-range of people. It presents a convincing argument that the standard 70 percent retirement income target is too high for many of us and that an appropriate target should be more in-line with our own personal consumption patterns – which happens to be around the 50 percent mark.
This type of approach strikes a nice balance between your present and future self. Smoothing out consumption throughout your pre-and-post-retirement years makes for more enjoyable living.
What’s your retirement income target? For those of you already retired, what percentage of your final pay are you living on?
My wife and I hiked up Grouse Mountain yesterday. It’s a gruelling three kilometre, 2,830 step, near vertical climb known as the Grouse Grind. At the quarter mark there’s a sign warning hikers that the trail gets even more narrow and steep from here, and if you can’t go on, this is the only point you can turn around and climb back down.
We reached the summit in just over an hour. Since hikers cannot climb back down Grouse Mountain, they must take the gondola to the bottom at a cost of $15 per person. That’s right, what many think is a free hike turns into a $15 money-grab where hikers literally have no choice but to pay their way back down the mountain.
This got me thinking about the current deferred sales charge debate. Certain members of the investment industry argue that deferred sales charges are necessary for advisors to service small or first-time investors. The advisor gets a large upfront commission that the investor does not have to pay out of pocket, however if the investor transfers or sells the fund within a certain time period (usually seven years), he or she pays a deferred sales charge upon redemption.
Through this model, companies such as Investors Group and Primerica can pay an army of sales people to recruit new clients to start investing with them. Investors, usually unbeknownst to them, get trapped into a deferred sales charge arrangement that is a bit like the Hotel California: They can check out anytime they like but they pay a tremendous price (up to 5.5 percent of their investment) to leave.
Deferred sales charges hurt investors. Period. And when investment fees are already sky high in Canada there should be no reason to add to the pain by imposing another punitive fee for investors to sell their funds.
That’s why I was sickened to see this tweet from Ontario finance minister Victor Fedeli cozying up to Advocis, a key lobbyist for the investment industry that is clinging their compensation model at the expense of Canadian investors.
Deferred sales charges hurt investors, plain and simple. A blog reader shared his statement: $240,000 invested in IG mutual funds. Hardly a small investor. Funds purchased between 4-5 years ago. DSC upon sale is $10,000! #hostage #shackles #predatory #loweringthebar #bantheDSC https://t.co/gKisFXqaDE
— Boomer and Echo (@BoomerandEcho) October 18, 2018
Furthermore, shame on the Financial Post for giving print space to the CEO of Primerica to praise the Ontario government’s overturning the ban on deferred sales charges (the tool Primerica uses to pay its army of salespeople). Pathetic. It’s time to end deferred sales charges and lower fees for all Canadian investors.
This Week’s Recap:
On Monday I wrote an investing guide for beginners who want to get serious about saving for retirement.
Over at the Toronto Star I wrote about the age-old financial dilemma: Save for retirement, or pay down the mortgage?
Many thanks to Rob Carrick for linking to this important post on being an executor in his latest Carrick on Money newsletter.
Weekend Reading:
Probably the best explanation of the Financial Independence Retire Early (FIRE) sub-culture you’ll ever read, by Vicki Robin, author of Your Money or Your Life.
On the flip side, here’s how to make the best of a bad job you can’t leave.
And John from ESI Money explains what FIRE people do when the market’s on fire.
Earlier this month 200 ‘Bogleheads’ came together in Pennsylvania to pay homage to their hero (Vanguard founder Jack Bogle) and share their advice about keeping investments simple and fees low.
Here’s Jack Bogle on what he thinks expected returns will be from stocks and bonds over the next decade:
One of the best ways to teach anyone about money is to tell stories. Here Jason Zweig shares a good one from the Great Depression about eating an apple down to the core.
Should you put all of your retirement savings into one low-fee balanced ETF? Dan Bortolotti has the answer.
This common retirement savings advice is sneakily wrecking people’s finances.
Ethical questions surround the investment portfolio of the Canadian Pension Plan Investment Board (CPPIB), which was found to hold investment stakes in guns, cigarettes, and prisons. I’ll have a post or two on ethical investing in the coming weeks.
A Wealth if Common Sense blogger Ben Carlson uses a basketball analogy to make a point about consistency and staying in the game (financially speaking):
“[Kobe] Bryant avoided taking charges to prolong his career to avoid wear and tear on his body. And it worked until injuries finally caught up with him at the tail end of his career. Bryant played for 20 years, finishing in the top 15 for most games played of any player in NBA history.”
Even the folks running pension plans think you’re not saving enough for your retirement.
Excellent research by Michael Kitces on how birth year shapes a generational experience in stock market investing.
If you bought a home two decades ago or longer you’ve likely seen a large run-up in prices…enough to believe you’ve earned a massive annual rate of return on that investment. Michael James compares his house purchase in 1993 with that of his stock portfolio and finds that stocks outperformed by a wide margin.
Dale Roberts explains how Canadian markets have fared this year and how to make that lack of growth seem insignificant in the long run.
What are normal stock market returns? Ben Felix explains in his latest episode of Common Sense Investing:
I’m fascinated by the Sears meltdown and here’s a good look into how one of America’s oldest retailers unraveled.
Finally, Paul Allen, the billionaire co-founder of Microsoft, passed away suddenly last week. With no spouse or children, his $26 billion estate may take years to unravel.
Have a great weekend, everyone!
Young readers often ask for investing tips and wonder how to get started. My typical response is that once you have a good handle on your finances – no credit card debt, student loans fully paid (or close to it), some cash saved up for emergencies, short-term goals are funded (or on the way) – then it’s probably a good time to start your investing journey.
Finding the right investing approach can be tricky for beginners. There are plenty of options available, from GIC’s and bonds to mutual funds, stocks and ETFs. Then you need to consider your age and risk tolerance. Do you have the stomach to handle stock market fluctuations of 25 percent or more, or would you prefer to see returns that are lower, yet less volatile?
If you’re serious about saving for retirement, you need an investing guide. Here are a few ideas to get you started:
Investing Guide for Beginners
First time investors: Building your portfolio
The best way to build up your investment portfolio is to start small and make it automatic. Determine what you can afford to contribute to your investments each month and set-up automatic transfers from your bank account on the days when you get paid.
Most people go to their bank branch to talk to an advisor about their investment options. Beware though; your financial advisor may be a mutual fund salesperson in disguise. More often than not a bank advisor will push their in-house mutual funds, which may come with some of the highest management expense ratios (MER) in the industry.
A good place to start is with a portfolio of index mutual funds. The cheapest and most widely publicized set of index funds is TD’s e-Series, which can be set-up for as little as $25 a month. Best of all, you won’t pay any commission or trading fees when you buy e-Series funds, which makes them the perfect vehicle for small, frequent contributions.
When it comes to asset allocation, I recommend using these three funds to get exposure to Canadian, U.S. and International stock markets, plus a Canadian bond fund to help lower volatility and lesson the impact of a market correction or crash:
| Fund type | Fund name | Allocation | Expense Ratio |
| Canadian Equity | TD Canadian Index – e | 25% | 0.32% |
| US Equity | TD US Index – e | 25% | 0.34% |
| International Equity | TD International Index – e | 25% | 0.49% |
| Canadian Bonds | TD Canadian Bond Index – e | 25% | 0.49% |
Note that you’ll need to open an account with TD, as you cannot access their e-Series funds from other banks or brokerages.
What to do when your portfolio reaches $25,000+
Once you’ve built up $25,000 or more in your TD e-series portfolio, it’s worth opening up a discount brokerage account where you can trade ETFs and individual stocks.
The $25,000 threshold is important because once your portfolio surpasses $25,000 then most discount brokerages waive their annual administration fee, saving you around $100 a year.
Exchange Traded Funds are worth a look at this point if you’d like to get more sophisticated with your investments; diversify into broader or more specific sectors, and lower your overall portfolio costs.
ETFs are securities that trade on a stock exchange and generally track the performance of an index. ETFs usually have much lower fees than mutual funds, but you might pay a commission every time you buy and sell.
Here’s a look at a model ETF portfolio that gives you exposure to different markets and asset classes for a fraction of the cost:
| ETF type | ETF name | Allocation | Expense ratio |
| Canadian Equity | Vanguard FTSE Canada All Cap Index (VCN) | 20% | 0.06% |
| Global Equity | Vanguard FTSE Global All Cap ex Canada Index (VXC) | 40% | 0.27% |
| Canadian Bonds | Vanguard Canadian Aggregate Bond Index ETF (VAB) | 40% | 0.13% |
Vanguard has also recently introduced a suite of balanced ETFs where investors can get exposure to all of the above with just one ETF. These all-in-one ETF solutions include a conservative blend of 40 percent stocks and 60 percent fixed income (VCNS), a traditional balanced blend of 60 percent stocks and 40 percent fixed income (VBAL), and a growth blend of 80 percent stocks and 20 percent fixed income (VGRO). DIY investing has literally never been so easy.
If you start using ETFs rather than index mutual funds, I’d recommend contributing new money just a few times per year rather than bi-weekly or monthly. This way you avoid paying a lot of commissions for your smaller transactions.
Consider a robo-advisor
At this point you might also consider using a robo-advisor to manage your investments. A robo-advisor provides portfolio management online with minimal human contact.
You fill out a risk assessment form online and then receive a personalized model portfolio built with low cost ETFs. The robo-firm takes a small fee to manage your funds, then monitors your portfolio daily and automatically rebalances it for you whenever it drifts beyond certain thresholds.
One compelling reason to have a robo-advisor manage your portfolio is that you automate the process and then get out of the way. Humans have a number of behavioural flaws when it comes to investing and our tendency to tinker (or dither) often leads to worse outcomes than if we were to just leave things alone (or follow a rules-based formula).
Using a robo-advisor is a good approach for those who don’t have the time or skill to manage their own portfolio, but who are savvy enough to understand that high-fee bank mutual funds are harmful to your wealth.
Also read – Nest Wealth vs. Wealthsimple: A tale of two robo-advisors
What about individual stocks?
I am a big fan of index funds and ETFs because they’re easy to use and they cost much less than the mutual funds sold by your bank or advisor. That said there’s a good argument to be made for investing in dividend stocks – particularly the type of companies that regularly increase their dividends.
Dividends can account for as much as one-third of market returns and the steady income comforts investors during volatile periods. Beware of high-yield stocks, and investing in companies with high or unsustainable dividend payout ratios. Avoid the temptation to chase the latest fad stocks and IPOs.
Discount brokerages such as the ones offered by the big banks can give investors free access to market research and stock screeners to help you track and build your investment portfolio.
The downside of a discount brokerage is the cost per trade, which can cost $9.99 anytime you buy or sell. A good rule of thumb is to limit the cost of your transaction to no more than 1 percent of the amount of stock you’re buying. For example if a trade costs $9.99 to execute you should buy at least $1,000 worth of stock.
Universal investing truths
Understand that there are two investing truths that have become more widely accepted today, but didn’t exist when your parents started investing.
One: The best predictor of a mutual fund’s future investment return is not the number of Morningstar stars it receives, but how low its expense ratio is.
Russell Kinnel, who works at Morningstar, had this to say about predicting future success:
“If there’s anything in the whole world of mutual funds that you can take to the bank, it’s that expense ratios help you make a better decision. In every single time period and data point tested, low-cost funds beat high-cost funds.”
Two: Trying to beat the market is a fool’s errand. For decades, mutual fund managers attempted to win over clients with impressive research and statistics showing how they can make investors wealthy by outperforming the market (and their peers).
But active managers fail to beat their benchmarks more often than not. According to the SPIVA Canada scorecard, less than 20 percent of active Canadian equity funds outperformed the TSX over a five-year period ending December 29, 2017. That percentage dropped to 8.14 percent over a 10-year period.
The numbers are even worse for active U.S. equity funds, where just 2.2 percent of fund managers beat their benchmark over a five-year period and 1.67 percent beat it over a 10-year period.
The underlying point is that the odds of identifying successful fund managers in advance are vanishingly small. And if you happen to find a good fund manager, the likelihood that he or she will consistently outperforming their benchmark, after fees, is close to zero.
Final thoughts
One key message for beginner investors is to try and build good habits early on. Pay yourself first through automatic contributions and you’ll never miss the money.
Start with what you can afford, but remember to increase the size of your contributions often – once a year or more – and match it to the amount of your salary increase.
For example, if you get a 4 percent raise next year, bump up your contributions by 4 percent as well. On $50 a month, that’s just $2. It doesn’t sound like much, but it’ll make a huge difference over time.
Finally, as important it is to keep your investment costs low and your portfolio broadly diversified, keep in mind that it’s often our own behaviour that leads to bad investment decisions and poor outcomes. Know yourself and what makes you tick, and try to limit situations where you might act on emotion and divert from your strategy.