We have been warned since we were children about the dangers of making assumptions. The old saw goes “When you assume, you make an a** out u and me.”
Working in financial services for almost three decades, I can tell you that no one wants to end up the financial equivalent of an a**. Notice, I am not recommending against ever making assumptions. We are only human, after all. Rather, I am recommending that we endeavor to make better assumptions, so that we might avoid challenges that could otherwise be avoided.
Over the course of my career, I have spoken with some people, both personally and professionally, who assume their investments will earn some truly ambitious annual returns; returns well into the double digits. Not only are they assuming something that is historically unlikely, but they are betting their futures on it.
Do not mistake me, I love and respect optimism, ambition, and an ethos that sees the proverbial glass as half full. And there is everything right about working to achieve the best possible results. However, I like to balance things with prudence, logic and expectation management.
Why should we manage our expectations? Because reality is uncompromising. It does not care what we want. I read once that reality can be thought of as “That which does not go away when it is ignored.” I think reality can also be thought of as not what we want, but what we get.
Another reason to tamp down our assumptions is that life is generally easier when we do well financially. Yes, we should work to do well, however, it makes sense to prepare ourselves for economic downturns or subpar earnings on our portfolios. It can be difficult going through hard economic times. It is more difficult still if we have not prepared for tough times. One of the best ways to prepare is to live well within our means. This provides us the opportunity to save more of our money for those potentially tough times.
Conversely, if we throw caution to the wind and overspend today, the price may well be a lower quality of life when we retire. Considering that many people will live for several decades in retirement, financial lack born of poor planning will likely lead to long and grinding unhappiness.
The siren song of a higher assumed rate of return (ROR) on our investments is that it leads to the belief that we can save less money and still be comfortable with what we have saved. After all, as this thinking goes, what we have not saved we will make up with outsized returns. If only life were so easy.
Though austere, here is a better lens through which to view the amount of money you should be saving. Assume your lifetime rate of return (ROR) to be zero! Under this scenario, the amount of money you will have five, ten and 20 years from now will be exactly what you have saved and not a penny more.
Yes, this is a radical approach. But, is it more radical than assuming double digit returns on your portfolio ad infinitum? At least in the no returns scenario, you are far more likely to be prepared for the future, because you have disciplined yourself to save more. That, and you are probably less likely to retire prematurely.
The reality is that as a nation, we are heroically under-saved. Moreover, we tend to think in relative and not absolute terms. If we have a hundred thousand dollars put away, we might make ourselves feel good by comparing what we have with the folks who have nothing saved at all.
The problem is that we cannot pay for college tuition, dream vacations, medical procedures, gas, or groceries with comparisons. They require money. And the more of it we save, the more we will have and the better off we and those we love will be.
Allow me to clarify the point I am making. Our goal should be the best rate of return we can get on our hard-earned money. Of course, best encompasses not only the return we get but the risk we take to get that return. We should certainly work diligently to get the best risk adjusted ROR we can. However, we should not live in fantasyland about what we can expect to earn and by so doing, under-save and under plan.
What I am saying is that by eliminating the assumption of a return – as an exercise in mental financial discipline – we will likely save more now. Overtime, our savings, if well invested, will likely grow substantially. That will leave us in an excellent position. We will have saved a larger portion of our income and seen it grow considerably.
The path to achieving our financial goals is by saving more of our hard-earned money and investing it wisely. Assuming outsized returns so that we can save and invest less is not a wise path.
My goal is to help my clients take steps today that increase the likelihood they will be better off tomorrow. By not making unrealistic assumptions, we will be better off no matter what happens in the future.
If you would like help putting a plan in place to incrementally increase your savings and ultimately, your prosperity, consider working with a financial planner who has earned your confidence to help.
Scott R. McGimpsey September 30th , 2022
This blog post was written by Scott McGimpsey and does not necessarily represent the views of Cetera Advisor Networks LLC. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. Neither Cetera Advisor Networks LLC nor Scott McGimpsey is engaged in rendering legal, accounting, or other professionally services. If such assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any federal, state, or municipal tax penalty. Moreover, a diversified portfolio does not assure a profit or assure protection against loss in a declining market. UNIFIED PLANNING GROUP is an independent firm.