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How much will I earn on my 401k investments? How do I use a retirement calculator?

I'm in my 30s and am just starting to save for retirement in earnest. As i prepare, is there a % I should keep in mind for anticipated returns annually? I know you can't predict this, but for planning purposes, is there a standard % that one should use?

Jul 30, 2012 by Monique from Vineland, NJ in  |  Flag
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10 votes
George Cones, JD Level 20


There are many tools available to help you calculate your retirement needs and savings expectations, but some of these tools can get very complicated. The first place to look may be on your 401(k) plan website. There may be a “gap analysis” tool there (a web-based program that helps you figure out what your retirement and retirement savings need are likely to be versus what you are saving, as well as how changes in your savings will affect your retirement savings). You may find similar tools on websites like Morningstar. You are trying to build a nest egg that you can live on until you reach your life expectancy, which for a woman your age is about 85 years (look at the life expectancy tables on the Social Security website). Often assumed requirement needs are based on a percentage of income, like 80% of income at retirement.

Many of these programs ask your age, your income, how long you have until retirement, your assets, your life insurance, etc.

Since 1926, on an annualized basis: US large cap stocks have returned 9.8%, US small stocks returned 11.9%, World Stock Markets X US returned 7.9%, Long-Term Government Bonds returned, 5.7%, and 30 Day Treasury Bills (cash) returned 3.6%.

A useful rule of thumb to calculate how quickly an investment or portfolio will grow is the “rule of 72”, simply divide the expected return of an investment into 72, to determine how many years it would take for the investment to double.

For example, if we use the historical expected return of small cap stocks, 11.9%, using the rule of 72 (return into 72) our portfolio should double in 6 years, and again in another six years, and so forth. If we put all or part of our investment in large cap US stocks (like the S&P 500 or the Russell 1000), using the historical expected return of 9.8%, and the rule of 72 this portion of our portfolio should double in 7.35 years (72/9.8%). Following this same logic, If we invested all or a portion of our portfolio in 30 day t-bills with a return of 3.6% it would take 20 years to double the investment.

You have to understand that while we may expect long-term returns to approximate historical returns, there may be a lot of downside risk in the short run. For the 5 years ending in December 2011, small stocks returned -0.5%, large cap stocks returned -0.2%, World X US stock markets returned -3.6%.

If you were looking at your statement 5 years after you made a commitment to stocks and saw these negative returns, what would you do? Unfortunately, many investors would do the absolute worst thing, change their allocations. If you look the 10 year and 20 year numbers for these same areas of the market you will see they all did much better over the longer-term. For a person like you, who has 20 to 30 years to retire, a diversified portfolio of stocks weighted 60-70% stocks, a diversified portfolio of bonds, and some cash should provide a competitive return, while dampening downside risk somewhat. Don't panic, understand the ride could be bumpy.

As young as you are, you are able to withstand market swings, so a broadly diversified portfolio with 60-70% exposure to large cap stocks, small cap stocks, and international stocks, should give you the most bang for your buck long-term. Of course as you move closer to retirement (say within seven to ten years), your should consider adjusting your allocation reduce exposure to downside risk, and include more income producing assets in your portfolio.

Comment   |  Flag   |  Jul 30, 2012 from Wilmington, DE

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10 votes

Hi Monique, I'd suggest that rather than focus on an expected % return rate, focus instead on your saving % rate. The reason why is that you cannot control what rate of return you will earn over time, as the markets are simply unpredictable. But you can absolutely control how much you save for retirement in your 401k. If you can reach it, set yourself a goal of saving 15% of your total income. That goal includes both your contributions and your employer's, so if for examply your employer contributes 5% of your salary into your 401k, then you'd need to contribute 10%. If you can't contribute that much right away, then build up to it consistently. Start at whatever percentage your budget allows, and then try to add say 1% per year until your overall contributions hit that 15% mark.

Retirement calculators can be good for educational purposes, especially in showing you the impact of how time affects your retirement savings. Since you are in your 30s, you have a good 30 years of contributions you can make to your retirement accounts, and a calculator will let you see how that plays out. Just don't put too much stock in the calculator's outcome, because things will definitely change over time (rates of return, good years and bad years, changes to your investment mix, etc.).

But kudos to you for getting serious about saving for your retirement--you're at a great age to start! Mike

Comment   |  Flag   |  Jul 30, 2012 from Orland, IN

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Hi Monique, This is a loaded questions. First, what percentage of dollar amount our you contirbuted each month. Second, what type of risk tolerance do you have? The less you contribute the longer you have to save. The more conservative you are, the lower the return, thus the need for a longer investment window. You need to answer these questions first, before a target number is assessed. Best of luck

Comment   |  Flag   |  Jul 30, 2012 from Narragansett, RI

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HI Monique - The other advisors have done a fine job of describing some of the many factors that affect individual investment performance. But if I read your question correctly, you are asking a general question about a target rate return for planning purposes. In my opinion, 5-6% would be a reasonable target for a long-term, moderate to moderately aggressive risk portfolio. Keep in mind that this is only a target; you would take on investment risk and likely experience performance volatility in implementing an investment plan. But for planning purposes, 5 to 6% is a good starting point. Best of luck to you.

Comment   |  Flag   |  Jul 30, 2012 from San Francisco, CA

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Mark Teerlinck Level 12

I agree with James- 5-6% annuallized should be reasonable for someone your age, knowing that you'll endure some negative returns along the way. The idea of relying on the index returns dating back to 1926 is extremely archaic in my opinion, as the markets are vastly different.

Comment   |  Flag   |  Jul 31, 2012 from Denver, CO

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