Investment markets have reared their ugly head since early February. After a time of prolonged quiet in the markets, investors are back to reacting to the news of the day. The week of March 18th yielded good economic news, a positive outlook by the Federal Reserve, yet a 5.9% retreat in the S&P 500 due to the talk of tariffs. Let’s look at an example to see if we should truly fear the day-to-day, or if we can achieve success even when we truly do have economic fears to be concerned about.
John and Mary walked into our office in February of 2001. At the time, John was 64 and Mary was 48. As a part of our planning process, we discussed their future goals in detail. John wanted to retire within one year while Mary wanted to retire at 60 (or in 2012). In addition, they stated, among other things, that they wanted a $25,000 car every 5 years, to play more golf and to stay in their current home.
With these goals, could they retire early on what they had saved and John’s pension with peace of mind and with confidence that they would not outlive their savings?
Remember, this is February 2001. Just before the dot com bubble collapse, the September 11th terrorist attacks and subsequent Iraq/Afghanistan war, Hurricane Katrina, global warming, and, finally, the near collapse of the financial markets. All told, Time Magazine’s December 2009 cover summarized the years from 2000 to 2009 as “The Decade from Hell”. For the decade, the Dow Jones stock index lost 9.3%, the S&P lost 24.1%, the Nasdaq lost 44.2%. The only indexes that were up were the World (ex USA) at 0.5% and Emerging Markets up 101.36%.
So, were John and Mary able to retire early in 2002? Did their finances survive the shock of multiple catastrophes?
Fast forward to June 2010. John retired, as planned, at 65 in 2002. Mary, while working part-time, could retire if she wanted to. And financially, their 401K and IRA Rollovers are up 35% since they first completed their financial plan with us in 2001.
So, how did we do this? We worked with both John and Mary to fully understand their intentions, values and goals. First in the context of the here and now – understanding what they currently have such as savings account(s), retirement fund(s), and current cash flow. Second in the context of what they will need in the future so that they will be able to successfully realize their goals.
With this information and our understanding of their financial situation, we constructed a diversified portfolio of stocks and bonds. We then back-tested many possible scenarios (usually situations that could derail their plans) using Monte Carlo simulation. A Monte Carlo simulation is a computerized mathematical technique that allows you to account for risk in quantitative analysis and decision making. It creates a range of possible outcomes, including the best and worst effects as well as, more importantly, the probability of reaching a successful outcome. John and Mary could easily see that the Prosperity Plan™ we created for them would allow them to meet their life goals.
So, what can we learn from John and Mary:
- Investing is a long-term process
- Your goals should drive your investment policy
- Diversification across asset classes (stocks and bonds) can lead to better overall returns
- While you can’t know future return, you can use history to provide past return and volatility data for modeling possible outcomes
- Financial planning is a net positive investment
Stay calm in these renewed times of turbulent markets. Consider the opportunities the down markets create and if you are truly feeling unease, give us a call, we are The Prosperity People!