Planning for the year to come involves understanding the decisions we might have to make and relying on our knowledge and experience to guide us toward our goals.
The expertise that we develop about our finances and our health, for example, is earned through reflecting on the decisions we have made both good and bad throughout our lives. We can then set intelligent goals and, hopefully, avoid big mistakes.
Fortunately, when it comes to investing, most of us start small with not much to lose as we save and build our personal wealth. We get smarter over time as our assets grow and then we reach the threshold of retirement. With all of this experience, shouldn’t investors find themselves confident in planning for retirement?
The truth is that even smart investors often arrive at the time to start retirement planning, pause, and wonder: “Does my knowledge and experience about investing still apply in retirement?” Since it is their life savings in the balance the stakes feel high. Some decisions, like timing Social Security, have permanent implications and they do not want to make an irrevocable mistake.
It is understandable that a smart investor can still struggle with retirement planning because the decisions about investing for income, spending and legacy are so different from those of the accumulation years. Here are three things that we have seen smart investors get wrong about retirement:
Turning Savings into a Paycheck
Some smart investors will try to reach for yield and earn the 4% that their plan says that they need. Others will get too conservative and move heavily into cash, losing the potential for growth. With interest rates this low, both of these strategies have risks that might not be readily apparent.
The method for you to turn your savings into a paycheck is as unique as your fingerprint. Smart investors should follow a “total return” income approach that relies on preservation, dividends and interest as well as growth. You want your retirement paycheck strategy to be flexible because market performance, interest rates and inflation are not in your control.
Because they are tuned in to the markets, smart investors are susceptible to recency bias. Recency bias is the tendency to assign more value to recent events than to history. Smart investors are aware of what caused the last crisis and what is fueling the current bull market. Often, that means they are preparing for the wrong risks.
If you are trying to make decisions about the risks of the next 20 years of retirement using your knowledge and experience of your last 20 years of investing, you may be swayed by recency bias. Your risks change when you stop being a saver and start your distribution strategy. Smart investors need to focus on the risks of the markets and their unique risks in this new season of life.
Knowing the Blind Spots
The measure of success for smart investors in the accumulation years is performance. How did I do compared to an index? How did I do in comparison to my golfing buddy? Performance is easy to track and for the last 30 years, the trend has been a good one for many. Smart investors should be cautious about focusing on performance as an exclusive measure of success in retirement.
Tracking retirement success is more nuanced because retirees make trade-offs between the returns they want and the returns they need for their plan. Smart investors work with their advisers to go beyond pure performance tracking and make decisions that can improve tax efficiency, stabilize returns and position their estates to best support their legacy. Retirement is a planning challenge with an investing component. Smart investors realize they cannot invest their way out of a planning challenge.
Smart investors have accumulated a lifetime of knowledge based on experience. But at retirement age, they are faced with making new kinds of decisions where the consequences of mistakes could be high. Someone planning for retirement in the years to come should consider whether their expertise will support the decisions ahead. If there is uncertainty, a conversation with a Certified Financial Planner could be a good first step in building confidence to complement a smart investing strategy.
Dennis Morton, CFP, ChFC, is the co-founder and principal of Morton Brown Family Wealth headquartered in Allentown. He can be reached at firstname.lastname@example.org.