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  • A Summer Grab Bag

    The secrets to sound retirement planning? Invest as much as you can as early as you can, and reduce volatility to produce better outcomes.

    W. Scott Simon, 08/03/2017

    In the dog days of some summers past, I have assembled a number of disparate topics in one column. They don't merit treatment on their own, but they still seem to be worthy of a good mention.

    Contribute as Much as You Can as Soon as You Can--and Never Break That Discipline
    The famous conviction, "The battle of Waterloo was won on the playing fields of Eton," may (or may not) have been uttered by the Duke of Wellington to explain his victory over Napoleon Bonaparte.

    Akin to this seemingly remote cause and the enormous affect that it produced (at least perhaps in the Duke's mind): The start dates and partcipants' contribution rates to retirement plans are the biggest determinants of the terminal wealth they amass by retirement.

    Let's isolate two mathematical issues at work here. The first is the simple arithmetic difference between given contribution rates of, say, 3% and 6%. Of course someone contributing 6% over the same period as someone contributing 3% will end up ahead. Further, both contribution rates will be subject to some exponential rate of growth that will (presumably!) generate compounding of wealth over time that favors the investor who contributed more.

    The key here is to get plan participants to understand that they should maximize their contribution rate from the first day they enroll in a retirement plan. Some won't contribute anything, because they think the amount that they can afford to contribute is inconsequential. But any amount is better than none, if for no other reason than to get such participants to begin psychologically to commit to a regular routine of contributions, however small the amount.

    It's often difficult to get participants to realize the link between what appears to be a paltry percentage contribution rate and a large terminal dollar wealth that can result from long-term compounding. That's frustrating enough but, in my view, what's even worse is that many plan participants fail to maximize their contribution rate from the get-go so that they can maximize the compounding rate at which their wealth will grow over time.

    A compounding rate will be whatever it will be and so it will take care of itself. But a participant's contribution rate is within his or her power to control. Many participants can contribute, say, 6% instead of 3%, but they won't take the time to examine their monthly budget to reassure themselves that they can do so. As a result, far too many participants end up contributing at a lower rate to their plan account than they otherwise could, resulting unnecessarily in lower compounded terminal wealth at retirement. This is especially a problem when participants and their employer together should be contributing 15% to 20% of compensation to participant plan accounts.

    At one of the plans that our registered investment advisory firm manages, we have two plan participants who are both in their early 60s and still working. One began plan contributions at age 34 and the other at age 37, so neither has even 30 years of contributions. No doubt over that time period, there were variations in the quality of plan investment options as well as the costs that they imposed on plan participants. In neither case could the participants say what their contributions rates were over time.

    W. Scott Simon is an expert on the Uniform Prudent Investor Act and the Restatement 3rd of Trusts (Prudent Investor Rule). He is the author of two books, one of which, The Prudent Investor Act: A Guide to Understandingis the definitive work on modern prudent fiduciary investing.

    Simon provides services as a consultant and expert witness on fiduciary issues in litigation and arbitrations. He is a member of the State Bar of California, a Certified Financial Planner, and an Accredited Investment Fiduciary Analyst. Simon's certification as an AIFA qualifies him to conduct independent fiduciary reviews for those concerned about their responsibilities investing the assets of endowments and foundations, ERISA retirement plans, private family trusts, public employee retirement plans as well as high net worth individuals.

    For more information about Simon, please visitPrudent Investor Advisors, or you can e-mail him at wssimon@prudentllc.com

    The author is not an employee of Morningstar, Inc. The views expressed in this article are the author's. They do not necessarily reflect the views of Morningstar.