A widely held belief is that the ticket to a comfortable retirement and a fat investment portfolio are instructions on how to allocate your assets and what extraordinary individual stocks or mutual funds to buy… The harsh truth is the most important driver in the growth of your assets is how much you save, and saving requires discipline.
Rule 2 – Keep a steady course, the only sure way to wealth is regular savings
This is a meaty chapter. I will only share the parts I think are the most helpful. The heart of this chapter is his practical advice on places to cut (savvy savings tips).
1. Pay yourself First – The best way to ensure that you don’t spend every nickel of every paycheck is to set up a plan so that you never get your hands on the money in the first place. You can do this by establishing a payroll deduction plan where you work.
He esp. advocates plans that allow you to save for retirement with tax advantages through your employer (e.g. a 401k). And if your employer matches all or part of your contribution, do everything you can to get started.
My input: While we all wish would have started earlier, now is the time to get started. Start small if you need to, but get started. However, as important as saving for retirement is, you may have to “pay yourself first” to build your emergency fund, car repair/replacement fund, etc. If you don’t, you might get started on retirement only to get derailed with an unexpected need. We use ING Direct’s Orange savings account. They are on-line accounts you link to your checking account. You can set up regular drafts and then move money back to your checking accounts when needed.
2. Find (or do your own) “Save more tomorrow” plan
Malkiel cites some fascination work by two economics who applied psychology to economics to encourage most consistent retirement savings. It is difficult to get started as most people fully spending their paycheck and they perceived a start in savings as a pay cut. Individuals weigh losses like this more than the gains of the savings. In a “Save More Tomorrow Plan”, instead of making a start today, an employee commits a portion of future pay raises to retirement savings. Where implemented has been popular and has high retention rates.
3. Make Out a Budget / change a spending habit or two
- Ben Franklin: Beware of small expenses; a small leak will sink a great ship.
- Even if you don’t want to live on a formal budget, he suggests you track your expenses for 2-3 months. Separate your expenditures into two categories: necessary and things you wanted at the time. Learn and reduce the unnecessary so you can save.
4. Think about opportunity costs ($2 today is really $16 at retirement)
What is the cost of a $2 treat at McDonalds (or fill in the blank)? If you recall that time is money, your realize that $2 today (at 7.2%/year) is $4 in 10 years, $8 in 20 years, $16 in 30 years, $32 in 40 years. So if you are in your 20’s today, multiple your expenditure by 16 times to figure out what it might be costing you at retirement. And if you change a habit, you can multiple the savings time after time. Remember, $300/year at 8 percent over 40 years adds up to $90,000.
5. A dollar saved is NOT a dollar earned (it is more).
Why? a dollar saved is much more than a dollar earned because taxes reduced earnings to far less than a dollar.
Here’s another idea: When you go out to eat with kids, offer them $1 if they will drink water instead of soft drinks. It keeps the money in the family, teaches the kids to forge present gratification, and the water is healthier for them.
6. Pay Off Your Credit Card Balance.
“Credit cards are the crack cocaine of the financial world.”
“Keeping a balance on your credit cards is about the worst financial move you can make.”
Strategies for Catching Up
1. Downsize Your Life
“There is no other way to make up for lost time than to start a rigorous program of savings now. You have not other choice but to be frugal. It may mean downsizing.
2. Consider Pushing Retirement Back a Few Years
Here are some sites with help on retirement planning:
- Fidelity.com
- Morningstar.com
- Trowerprice.com
- Vanguard.com
The Millionaire Next Door
Results of a 20 years study on the wealthy in America:
- Most people who live in expensive homes and drive luxury cares do not have much wealth.
- Conversely, many who are wealthy don’t live in fancy neighborhoods. Nor have the earned advanced degree or inherited wealth. They do not appear to be rich.
- Wealth is most often the result of a lifestyle of hard work and the discipline of regular savings.
- “Getting up in the morning and knowing that there is no mortgage on the house, every bill is paid in full and on time, is the most wonderful feeling in the world. It is a lot better than buying a $5,000 watch that will be used only to impress someone in a $1200 suit. I do take great family vacations, go to dinner a few times a month and move my own lawn. I do not deprive myself of anything I really want. I just don’t want the latest things that are being peddled on TV.”
Next time: On Insurance and Cash Reserves
The above is from my on-going study on investing, from Malkiel’s The Random Walk Guide on Investing. For more, see the index page to my full summary.