Retirement Redifined

Jan 15, 2011 by Todd Marley

Does ‘buy and hold’ work when the market goes up and down like a yo-yo?
How do you feel about your investments? Everyone we talk to is a bit freaked out about the stock market. In the last 2 decades we have witnessed too many episodes of serious financial crisis that have wiped out retirement savings accounts virtually overnight. It has been very unsettling to think about the security of older individuals’ invested assets in such volatile market environments.

The day we began to write this, the S&P 500 index went up and down nearly 10%. To say that is volatile is an understatement.

You know what everyone says: If you are in the market for the “long-term” you don’t have to worry about the short-term volatility or losses.

We suppose that made sense in earlier times and when you may have been in your 20′s, 30′s and even 40′s. But what about now and what about if you are in your 50′s, 60′s and beyond?

This is a new very volatile world and we wrote this to give you something to think about and determine if buying and holding stocks or mutual funds right now is a good idea even when looking at the long term.

Ask yourself this question: If the stock market goes up and down and up and down over a ten-year period and ends up at the same point ten years from now, will the account balance be the same at the end of the ten-year period?

If you invested $100,000 in the S&P 500 index which started at say 1,000 points and if the index went up and down like a yo-yo for ten years and ended with a value of 1,000, would your initial investment still be $100,000?

The answer is absolutely NOT! Look at the following chart where we assumed a very volatile market that goes up and down 10% every other year and after ten-years the average return is ZERO. You’ll notice that the account value is $95,438. And guess what, we haven’t even accounted for inflation!

Never go backwards and lock in gains. Many of you know that Fixed Indexed Annuities (FIAs) can be used to hedge the risk in the market and to earn decent returns when the stock market does well. FIAs are not a cure all. Not every penny of someone’s money should be in them, but as an asset allocation model, the older you get, the more money you should have in a wealth building tool that will not go backwards. 

What if the $100,000 invested in the above example instead went into FIAs?  If we make a very conservative assumption that over time the cap on returns will be 8% annually, look at the results. 

Year	Initial Investment	6 Month Return		Account Value		Initial Investment	Annual return		Account Balance
S&P 500 Spider Fund						Fixed-Indexed Annuity
End Year 1	$100,000	10%	$10,000	$110,000		$100,000	8.00%	$8,000	$108,000
End Year 2	$110,000	-10%	($11,000)	$99,000		$108,000	0.00%	$0	$108,000
End Year 3	$99,000	10%	$9,900	$108,900		$108,000	8.00%	$8,640	$116,640
End Year 4	$108,900	-10%	($10,890)	$98,010		$116,640	0.00%	$0	$116,640
End Year 5	$98,010	10%	$9,801	$107,811		$116,640	8.00%	$9,331	$125,971
End Year 6	$107,811	-10%	($10,781)	$97,030		$125,971	0.00%	$0	$125,971
End Year 7	$97,030	10%	$9,703	$106,733		$125,971	8.00%	$10,078	$136,049
End Year 8	$106,733	-10%	($10,673)	$96,060		$136,049	0.00%	$0	$136,049
End Year 9	$96,060	10%	$9,606	$105,666		$136,049	8.00%	$10,884	$146,933
End Year 10	$105,666	-10%	($10,567)	$95,099		$146,933	0.00%	$0	$146,933
Average Rate of Return		0%					4.00%

 

Why did the FIA end up with an account balance of $146,933 instead of $95,099? Simply put, in down years, the FIA returned zero instead of -10 percent, and in up years it returned 8 percent.

Are these real-world examples? Who knows, they could be. The question of the day is: Are you doing everything you can to protect your money in this uncertain world?

It’s one thing to be upset when you only earned 8 percent when the market is up 10 percent or more; it’s another and much more positive feeling when your money earns zero when the market is down 10 percent. The first feeling you experience could make you a little grumpy, but the feeling that will immediately follow — even though it sounds odd to be happy with a zero rate of return — brings a nice smile to your face (especially if you are over the age of 60-65 and close to or in retirement).

Just in case you’re curious, if the market has a wild swing of 20 percent every other year (up and down), the account balance at the end of 10 years in the S&P index would be $81,537, and the FIA account balance would remain at $146,933.

Conclusions

I’m not sure if the days of “buy and hold” as a tried-and-true way of growing your wealth have come and gone. That may or may not be the case. What I do know is that it’s time to have a discussion with a financial professional to understand all the various options available to grow and protect your wealth, and I think that conversation should include the information discussed in this article.