Money Obedience

A few weeks ago, my husband wrote about how adjusting our spending affects our retirement planning, and I wanted to say a few things about that. He explained that he took a look at our retirement accounts and noticed that we’re falling behind, but not by very much, and he also explained that he wasn’t that worried about it. I thought I’d explain a little more about why this isn’t so worrisome to me either.

He’s right – we did lose some of our investments in the recession. (And who didn’t?) But we cut back on our expenses, too. When we looked at our retirement accounts recently we realized that we are falling very slightly behind plan these days, but not to a worrisome extent. The reasons for this shortfall are quite obvious to me. For one, we lost a little bit of money with our investments, but that is part of the deal when you put money into anything other than federal government guaranteed things – at least for some periods of time. The other reason is also quite simple. Our household income has dropped a bit which makes it a little more difficult for us to put money away. But that is not necessarily all bad for our retirement plan. Let me explain why that might be the case.

It did take us a little while to downshift in spending but we did it. This did positively affect our retirement plan in two ways. One reason is that we’ve already figured out how to spend less on our daily household maintenance. Assuming we keep that up, we can also take down our projected expenses during retirement in equal measure. That means that we do not need to save quite as much as we needed to save before we figured this out. And that means that even if we have to digest the decline of our assets, our retirement plan is in better shape than we might otherwise think.

There’s a second reason why lowering expenses now will positively affect our retirement planning. If we adjust our daily spending downward now, we may have enough left in the budget that we won’t have to cut the allotment that we put away for retirement beyond what might hurt us in the long run. (We were putting away more than we needed to – we only ceased contributing to a supplemental retirement fund when we cut back. We still put away enough for matching funds. If your employer matches the funds you put away, the minimum you should put away is the maximum amount the employer would match, otherwise it’s like not accepting free money!)

I’m really glad that hubby keeps on top of these things like our retirement plans – he’s the one that really monitors our long-term accounts. But I’m glad that what I do to lessen household spending makes such a difference in both our short-term and long-term financial health.

Stock markets usually don’t do well in September. Since 1959 stocks have declined an average of 0.9% in September, which makes it by far the worst month of the year. (In case you care, December and April are the two best months of the year, up about 1.5 and 1.4%, respectively.)

So much for the facts. I don’t think this information helps much. Why not? - Well, let me ask this question. Would it make sense to sell on the last day of August and buy back on the last day of September? – At first glance you may say yes. But when you take commission and taxes into consideration, you may decide against it. Besides, what if this September is different than other Septembers? How often would you be willing to go through this exercise year in and year out?

Moving money in and out of the stock market for relatively short periods of time is called “market-timing.” According to most studies, this strategy has not worked out very well for most investors. Instead, the way you split up your money among the various investment choices makes a real difference. This is called “asset allocation” and it impacts about 90% of your financial success. So, why would you mess with “market-timing” in the first place? It is much more important to get asset allocation right than to get market timing right.

However, I can see one big benefit for knowing that the stock markets go down 0.9% on average in September. That is, we can prepare ourselves for a little setback in prices – just in case this setback actually happens. If it does, it would not be a big shock if stocks actually declined this month. We would all avoid panic, which certainly caught some of us during the recent decline ending in March. Panic does not set in if we are mentally prepared for a decline in the stock market – which really can happen anytime, not just in September, as we all know now!

When I looked at my wife’s and my retirement accounts I learned that we are falling very slightly behind plan these days, but not to a worrisome extent. The reasons for this shortfall are quite obvious to me. For one, we lost a little bit of money with our investments, but both downs and ups are part of the deal when you put money for some period of time into anything other than federal government guaranteed things. The other reason is also quite simple. Our household income has dropped a bit which makes it a little more difficult for us to put money away. But that is not necessarily all bad for our retirement plan. Let me explain.

We are fortunate enough that our lifestyle has never consumed every last dollar we earned. When our household income dropped it was not so difficult for us to adjust our spending. Now and then we are a little challenged by our new economic circumstances – old habits don’t die (easily) – but between my wife and me policing each other we are doing pretty well keeping our household finances in line with our lower income. The bottom line is that our expenses are lower than they were a year ago. This has a positive affect on our retirement plan.

We have always looked at our retirement needs based on our expenses (and not based on our incomes as many an adviser has suggested). But why should we try to save up based on the money we earn when we don’t spend that much? Now that our expenses are lower, we can also take down our projected expenses during retirement with an equal percentage. This has the positive effect that we do not need to save quite as much as we needed to save a year ago. And that leaves our retirement plan in a fairly good state even if we have to accept the decline of our assets.

Once again, I realize that it is good to check up on your finances now and then. It is not like I check my retirement plan every day or every week, but about twice a year I take a look at it and see where we stand. I think this is a good practice that works for me. But since personal finance is a personal thing, others may want to check more or less often. It is all good, as long as you make conscientious decisions about what you are doing and why you are doing it.

We took a look at Todd Tresidder’s e-book, "How much money do I need to retire?" In this e-book, Todd does not exactly give us a retirement planning calculator, nor does he give us a fixed dollar amount to target. He takes a totally different approach to retirement planning that avoids a lot of assumptions that flow into traditional retirement calculators.

He criticizes traditional retirement planning since it is based on a “save and spend” approach. The idea of traditional retirement planning is that you save enough money, invest it properly, and then draw down your savings during retirement. A lot of things have to go right for this to work out well. So, Todd proposes that you instead focus on “cash flow”. Try to accumulate a bunch of different assets that throw off cash year after year. The idea is that the cash flow generated should become sufficiently large that you can live on it during retirement.

Todd goes on to discuss the pseudo-scientific foundation of most retirement calculators. He says that these calculators pretend to be scientific, when in fact they rely on so many different assumptions that any scientific model has to be put into question.

We believe that his criticism is basically correct, but we still say that retirement planning is a worthwhile exercise no matter which model you follow. Retirement planning is not a one-off exercise but an ongoing process in which you review your past performance and adjust your plan (and your assumptions) according to new developments.

Whether you adjusting your existing plan or setting up a new one, being creative is a very important part of the retirement planning process. Todd spends some page space on the issue of creativity, since creative thinking can really make an enormous difference in one’s retirement plan no matter what approach you take. For example, the amount you need to save each month while you are working can change quite a bit if you decide to retire a couple years earlier or later, or if you decide to spend a few years in semi-retirement before fully taking yourself out of the labor market.

One disagreement we have with the book’s advice is this. At the end of the e-book Todd gives you some rules that you should follow so that you don’t have to worry about your retirement. He basically says that you should get enough of many different kinds of assets that will provide you with a cash flow forever. This sounds like a very great and ideal case, but it is probably not attainable for many. Sure, there are some who will be able to gather enough assets, but many will fail in this endeavor. Retirement planning, like all things “finance,” has to be approached on an individual level. One size does not fit all. Todd’s rules may fit some, they may not fit others. The same goes for traditional retirement planning that relies on all kinds of assumptions to make a plan work out for an individual. But again, no matter what approach you use, they all concur on two things: (1) plan for your retirement and (2) be creative – both, when you set up the plan and when you revise your plan.