Retirement planning its really all about time

Investment planning is at first glance a simple process but one that most Australians ignore.
Why do most people fail to plan their long term investments, particularly for retirement? I
reflected on these issues recently when discussing planning for retirement with my children.
There are a number of key questions to ask at the planning stage. They all relate to how
much time you have to accumulate investment funds for retirement and how long those
assets will last in retirement.
The key questions to ask are: how long will I live, how much do I have to invest, what
return on assets can I expect and what are my estimated annual draw downs?
How long will I live? This is the great unknown but is the key question in retirement
planning. A good estimate of individual longevity can be obtained from the internet. An
internet search with how long will I live will yield several websites which will provide a
useful estimate of an individuals longevity based on family background, life style and current
age. This provides a starting point to the investment plan: for example of a person aged 60
with an estimated longevity of 92 will need to plan to make their assets last for 32 years.
What are my assets how much do I have to invest? This is the easy one if you are close
to retirement since current assets are known and will in turn determine the potential income
and dictate and limit the annual rate of draw down.
What will be the annual drawdown on my savings? Not an easy question to answer
because draw down rates will vary depending on changing factors such as health issues
with age and changing returns on investments with time. But with the date of death known,
this provides part of the equation which will determine how long the assets will last? First
approach is to work out the annual costs of living which include food, health care, home
maintenance and holidays etc. This information provides the answers to the obvious
question of expenditure but the other parts of the drawdown equation are more difficult and
relate to the likely return on assets and the issue of inflation.
What will my investments return? It is important to have a realistic estimate of
potential average return on assets. Due to world economic conditions, returns over
the next 10 years are likely to be very much lower than those achieved over the past
10 years. A return of 5% over the inflation rate should be achievable with good
asset allocation but it is overly optimistic to assume that annual returns will be 12%
which is the approximate long term return of the All Ordinaries Accumulation index.

The effects of inflation. Inflation potentially has a devastating effect on retiree
funds and must to be taken into account. Future inflation rates are unknown and we
need to be realistic when estimating the future inflation rate. The long term inflation
rate in Australia is 4%, which suggests that the current low inflation rates of about
1.7% are unlikely to be the norm in the future. The rule of 72 is useful to estimate the
effect of inflation on future assets and costs. For example if inflation is 4%, the value
of assets and the purchasing power of the dollar declines by 50% over an 18 year
period (72/4). This estimate needs to be taken into account for both the value of
assets which decrease with time and future costs which will increase with time, both
due to inflationary effects.
There are many other issues related to investing in retirement but ultimately its really all
about time, available assets and return on assets, draw downs and inflation. A plan which
incorporates these elements puts the investor ahead of more than 90% of the Australian
population which either plans poorly or not at all.