When income exceeds expenses, asset is created. When the reverse occurs debt or liability rises. The excess of income over expenditure can be saved with three time horizons in mind: short-term, medium- term and long-term. An example of short-term saving is the money one puts aside to take care of the following month’s expenses before he gets paid. Saving towards a car can be considered as medium-term, whereas saving towards higher education of a toddler, is long-term. Long-term saving can also be termed ‘investment’. Short-term saving comes quite naturally to most of us, and with a bit of effort, medium-term saving does not become much of a hurdle to surmount. In spite of being the most important form of saving or investment, long-term saving is normally ignored.
Of all the long-term investments one can choose from, savings towards one’s pension is crucial and should be a must. It does seem as though a host of people just can’t be bothered to sit down to ponder the sort of lifestyle they want to live during retirement, and how to achieve it. Attitudes towards retirement have to change because statistical figures on demography, state and corporate provision seem pretty scary. Let’s have a look.
A research by the US Census Bureau in 1999 revealed that in Western Europe the ratio of retirees (over 65 year olds) to those in employment in 1950 was 0.15. In 2000 this ratio was almost doubled, rising to 0.29. The research forecast that by 2050 this ratio will rise to about 0.64. We are talking about an increase from 1:6 in 1950 to a staggering 4:6 in 2050. This is the so called ‘demographic time bomb’.
The relevant questions to ask here are: ‘how is the state going to provide for this alarming jump in the number of retirees, when its pension and social security systems are crumbling?’. Will tax paid by the decreasing number of workers be enough to comfortably take care of the pensions of the rising number of retirees? Is it fair for the working group to part with their hard earned income to take care of retired people, considering that some were spendthrift during their working lives, and intentionally refused to save for their retirement? To make matters worse, a lot of occupational pension schemes are in deficits, with a concomitant denial of some retirees of the pensions they very much deserve.
Let us forget about the statistics for a moment and attempt to appreciate the reality of the situation from a basic arithmetic point of view. Assuming you start working at the age of 20, retire at 60 and live for 20 years during retirement – assuming your lifespan is 80 years. If you decide to maintain your lifestyle as it is in the working time (40 years from age 20 to 60) during your retirement, then you have to save a third of your earnings. Although net real rate of return on savings is not been considered here, to save a third of income will be quite daunting to many people. I’d like to draw your attention to the fact that in order to earn a pension of £20,000 a year, with an annuity rate of 8%, one needs to have £250,000 sitting intact in a pension fund.
What is the way around this pension crisis, if one still wants to guarantee an easy retirement? Bank and building society deposits suit short-term time horizons, and besides, their returns are too meagre for this challenge. We have to consider a long-term investment with a good record of providing high returns in the long run.
Shares are a better fit than bonds in this respect, and provides a bonus of achieving returns that are proportionately higher than inflation rate. Lack of sufficient start funds should not be an excuse for not investing in shares, as one can commence investing indirectly on a small scale, by buying a stake in an investment trust, purchasing units in a unit trust or other OEICs.
There is nothing wrong with saving towards the attainment of short and medium-term goals. What is abominable is doing it at the expense of long-term savings, especially savings towards one’s retirement. If the future will be worth looking forward to, it must be well planned and adequately prepared for.
E-mail: davido312@aol.com
Web: http://www.investmentyouneed.com
I have a BA Hons. degree in Accounting and Finance. I am currently specialising in Financial planning.
