Retire Early? 14 Snags (Pt. 2)

Retiring before age 65 remains the dream of many Americans. Our first article looked at your personal obstacles to early retirement, such as how you save. Here are more potential roadblocks to starting your golden years ahead of time.

7. You underestimate how much to save. You probably won’t have the other sources of predictable income you enjoy when you retire at 65. Social Security and Medicare, for example, simplify calculating income for normal retirement. Especially if you plan to not work, be completely realistic about how much money you need.

Let’s say you decide you need $40,000 per year to retire. Using the safe withdrawal rate of 4% – the conventional formula for you to never exhaust your portfolio – you need $1 million in your portfolio at retirement to generate that income consistently.

Work out some serious projections with a retirement calculator and realistic information. In another example, let’s say you’re 30 and want to retire at 50. You earn $60,000 annually and assume a long-term rate of return of 10% on a portfolio that’s completely invested in stocks (see item 9 below). If you invest 30% of your income each year for 20 years, you reach slightly more than $1 million.

8. You aim too high. Starting your retiree life with world travel and living at the beach may well be beyond your means. Early retirement requires compromises; you may find yourself in a standard of living beneath what you have right now.

Again, be realistic.

9. You invest too conservatively. Chances are you need a portfolio 100% invested in stocks to reach your investment goal. If you invest a sizable portion of your money in fixed-income vehicles paying less than 1%, you never accumulate enough to retire.

You take on considerable risk to reach your goal – part of the price of investing, and there’s no getting around it.

Consider a couple I once met who wanted to retire early but after the 2008 crash were too scared to re-enter the market. Their $800,000 portfolio now sits in cash, making nothing.

10. You invest too aggressively. You already take on plenty of risk when investing entirely in stocks. Use extraordinary care in the kind of stocks you invest in.

Another client of mine, for instance, worked in the energy sector and accumulated a lot of company stock. Since he was familiar with that sector, he also owned several other energy stocks. He thought he was diversified. I thought otherwise: Almost 60% of his portfolio was in energy shares, with 95% of that in individual stocks.

His do-it-yourself stock-picking strategy lost him more than 50% of his holdings’ value in 2008. Luckily many of his stocks rebounded and, learning his lesson, he sold many to diversify his portfolio.

11. You speculate too much and invest too little. A pressing investment goal might prompt you to try accelerating your progress and enter investment situations that are more speculations than true investments: taking a flyer on upstart companies, investing in market segments you know nothing about, operating on tips or even day trading.

You can earn some above-average returns with some of those ventures. You more likely end up losing money. Stick with mainstream stock investments.

12. Inflation. Some factors are completely beyond your control yet materially affect your ability to retire early. Inflation is one such factor in all long-term investment plans.

For instance, our previous example shows what you need to do to get to a $1 million retirement portfolio. Inflation whittles that money, though, meaning you likely need even more.

We can’t know what inflation will do in the future; we do know what it did in recent decades. The calculator from the Bureau of Labor Statistics, for instance, shows inflation’s effect on your $1 million (in 2014 dollars) portfolio 20 years down the road.

For example, enter $1 million today on the calculator then select 1994 from the years menu. You find that you need about $1.6 million in 20 years to keep up with inflation based on what rising prices did over the past two decades.

Inflation may even necessitate you delaying retirement, increasing your savings contributions or a combination of both.

13. The stock market may not cooperate. Much of your ability to retire early depends on your average return on stocks in the coming years. We often use 10%, roughly the historic average over at least the last 80 years. If that return drops to just 8%, your portfolio falls far short of the mark you need – a yield of slightly more than $835,000 after 20 years.

(In that case, you can delay retirement two years to make up the difference. Better late than never, right?)

14. Bad timing. Yet another factor beyond your control: Equity markets fall and from time to time even collapse. Such a plunge shortly before your retirement can put your whole plan on hold.

Markets tend to correct quickly. If the market tanks just before you retire, simply delay retirement and wait out the recovery – and spend the time contributing more savings to your portfolio.

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Jeff Rose, CFP, is the founder of Alliance Wealth Management in Carbondale, Ill., and also is the founder of the website Good Financial Cents and Life Insurance by Jeff.

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