Financial independence during retirement is becoming more and more difficult to achieve. That’s why you need to start saving early – a little foresight now could mean a lot when retirement comes around.
We expect to live comfortably in our old age, since we’ve worked so hard to get there. We expect to receive a pension, which pays us 75% of our salary, but find ourselves reluctant to save even 10% of our salary towards a retirement plan.
The only way to achieve long-term retirement goals is through proper financial planning to ensure you make sensible investments decisions and remain committed to your savings plan.
You need to start saving early. Consistent saving over long periods in a product such as a retirement annuity fund, means that, over time, more money comes from growth than from the contributions you make. That’s why it is highly unwise to store your cash underneath the mattress.
Inflation erodes you money’s spending power. Your return on investment should at the very least maintain the value of your money. That means that you should be compensated for the length of time you invested.
South African companies have delivered, on average, returns of 7.3% over the long term (about 100 years). That means that 2/3 of your total savings would be from compound growth and returns if you saved for 40 years. The amount of growth, relative to contributions, increases exponentially as the time allowed for compounding increases. The most important period for your contributions is the first 10 years since that money has much longer to grow.
If one assumes returns comparable to very long term returns, taking into account historic inflation, then an investor contributing consistently (say R100/month) every month for 10 years (R12000 in total) can stop contributing (but remain invested) for the next 30 years and still accumulate as much as someone who delays for 10 years and then contributes R100/month for 30 years (R36000). That means that sacrificing a little now is worth it in the long run.
Sensible behavior is very important when it comes to investments. In fact, research shows that an average investor will receive much less in returns than the funds they have invested in. This is due to the fact that the average “person on the street” tends to make poor decisions when it comes to when they should buy or sell and when to switch between funds.
The lesson to be learnt here is that successful investments are not only about your skill in the market, but also about your behavior. Your investment’s performance isn’t linear. Sometimes an investor is surprised by a period of short-term underperformance. This frightens them causing them to sell their investment at the worst time, which means they tend to miss out on a large part of the return in unit trusts. If your personal circumstances and risk capacity change then you should rethink investment strategies. Don’t let short-term fluctuations in the market change your plan.