Going for growth: A 30-year retirement plan

The challenge of planning for retirement is a difficult one. How much will you need? What mix of assets will you have? How quickly can you withdraw funds from your portfolio?

All of this is discussed in the mix of ever-increasing retirement lengths – for a person retiring between age 55 and 65, a 30-year retirement is well and truly a possibility.

To have a look at the possibilities for someone retiring today, I went back 30 years ago, to the start of 1983. Malcolm Fraser was Prime Minster, we were months away from winning the America’s Cup and economically Australia was in the grip of a significant recession, with unemployment on the way to 10.3%.

The objective is to look at what different asset allocations and portfolio withdrawal rates would have meant for someone who had a 30-year retirement from 1983 until now. At first glance, it hardly seems like a great time to have retired – in the midst of a recession, and with the 1987 sharemarket crash, the early 1990s recession and, more recently, the global financial crisis to contend with.

The Scenario

Let’s start by setting up the retirement scenario. The average weekly wage (AWOTE) at the start of 1983 was $335, or $17,420 a year. As a comparison, today the average weekly wage (AWOTE) is $1,369 a week, or $72,600.

Let’s assume that someone needs 70% of the average wage to retire comfortably – by today’s standard, that would be just over $50,000 a year (given today’s average wage of $72,600). Back in 1983, 70% of the average full-time wage was $12,194.

The next step is to work out the value of their hypothetical retirement portfolio. I have chosen an amount of $243,000, or 20 times their retirement income. I think that 20 to 25 times your retirement income is a reasonable target for the level of assets needed to fund a retirement, and have chosen the ‘more aggressive’ range of 20 times retirement income to see how people fare over a 30-year retirement with this level of funds.

The starting level of drawings is $12,194, and every year we will increase this amount by the rate of inflation. By 2012 this level of drawing, after annual increases by the rate of inflation, had increased to $36,152. (It is worth noting that the average wage seems to have increased by more than the rate of inflation. This is not surprising, as wages tend to increase at a slightly higher rate than inflation – part of the reason our standard of living increases over time).

We will do this for three different retirement portfolios to look at the actual results that would have been achieved if the people retiring had chosen:

• To have all of their assets in a cash account that earned ‘an average rate of return’.
• To have all of their assets in a sharemarket investment that earned ‘an average rate of return’.
• 50% of their funds in cash account and 50% of their funds in a sharemarket investment (let’s call this a 50:50 strategy).

The inflation data comes from the Australian Bureau of Statistics website, and the returns data are the index returns for cash and Australian shares from the Vanguard website. Tax is ignored, as people with this level of assets are unlikely to pay tax in retirement. Franking credits, which potentially add extra to the sharemarket return, have also been ignored for this exercise.

The Results

Probably the key question is – did these three investment strategies meet the needs of the retirees drawing $12,194 in 1983, and increasing those drawings by the rate of inflation each year? The answer is very much, yes. Indeed, each strategy had a significant ‘surplus’ by 2013 (the end of the 30 years). For the cash option this was $898,000, for the share investment option this amount was $4,282,000, and for the 50:50 option this was $2,665,000.

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Pushing the Envelope – a Different Drawing Rate

Another piece of analysis we can do is ask ourselves, if we knew that we were going to live exactly a 30-year retirement, and given the investment returns of the past 30 years, how much could I have withdrawn from my portfolio to fund my retirement. The answer is in the table below:

Drawing to Leave a $0 Portfolio Balance

The Warnings and Conclusions

There are a couple of significant warnings for using these results as much more than interest. The first is that cash returns for the early part of this period were extraordinary – nine years of returns more that 10%, with five of them more than 15%. It seems highly unlikely that someone considering retirement now will see those sort of returns.

Also, the model assumes that an investor ‘captures’ the average sharemarket return. There is a body of evidence that suggests many, even most, investors do not do this well. Between bad market timing decisions, poor share selection, transaction costs from overtrading and a propensity to hold losing shares in a portfolio for too long – there are many, many investors who fail to receive an ‘average’ return on their investments.

That said, the importance of holding at least some exposure to a ‘growth’ asset class like shares in a retirement portfolio, over a time frame of 30 years, is also demonstrated. Even with the 1987 crash and the GFC, they provided a superior return in a period when cash returns were outstanding for some time from 1983.

Scott Francis is a personal finance commentator, and previously worked as an independent financial advisor.