WHEN we eventually stop working for money, we’ll need a financial safety net. How should we gauge and track our success in weaving it?
If you’re like most people reading this column, you’re currently working. Furthermore, sometime down the road, you’re hoping to retire well; ideally very, very well.
Nowadays the prospect of a comfortable retirement stemming from a nurtured golden nest egg is something we all aspire to. In my work as a licensed financial planner whose main specialisation is crafting and managing retirement funding portfolios, about 90 per cent of my clients target accumulating total retirement funds ranging from a modest RM500,000 to a stratospheric RM20 million.
Yes, I realise that’s a huge range, but people come in all shapes, sizes and superannuation goals. Without getting bogged down on technicalities, let me cut to the chase:
To retire well, we all need to shift our economic reliance from active income earned during our working decades to passive income flowing into our lives during our retirement years.
Such things don’t magically happen in a binary – black or white; on or off – fashion like flipping a light switch. Instead, throughout our typical three, four or even five decades of actively earning a salary or raking in self-run business profits, we should be channelling a portion of our earnings that is intentionally unspent in the present into savings and investments aimed at funding better lives for our future selves.
Wealth Accumulation Portfolio
The portfolio you build up from those savings and investments can be referred to as your WAP or Wealth Accumulation Portfolio. The streams of passive income that can most readily be generated by investment building blocks within your WAP are interest or profits, dividends, distributions and rental. (As space is limited, I’ll explain the technical aspects of creating such distinct passive income streams in future columns here in the New Sunday Times and, more immediately, within intermittent Twitter posts, which you may access for free by following me on Twitter at @rajendevadason if that social media channel appeals to you.)
With each passing month, quarter, year or decade, your WAP should grow – taking into account short-term investment market fluctuations – IF you resist the temptation of raiding it prior to retirement.
As your WAP balloons, your blended passive income flowing from, say, four or five asset classes will also strengthen. Then, to check and see if you’re on track for a great retirement, I suggest you embark upon four different, staggered retirement funding dry runs. These can each be scheduled to last just one month to minimise disrupting your personal, family and work life through analysis paralysis!
Suggested Dry Runs
I recommend you schedule your first three dry runs 10, five and three years before your target retirement. Later, your final dry run should be one year before retirement starts in earnest.
Let me give you some indicative numbers to help make sense of my suggested dry run plan for you. (Because of the long range implementation of this D-I-Y programme, I urge you to clip and save this column, and my next one here, for repeated referencing over the next many years.)
If you’re 35 years old today and hope to retire at 60, then you still have a quarter of a century to fund your retirement portfolio or your more generic WAP.
Between ages 35 and 50, aim to live well yet still way below your means. Your goal is to become better at exercising delayed gratification. The four test periods for my suggested retirement funding dry runs could then be for one month after your 50th, 55th, 57th and 59th birthdays.
For each of those one-month dry runs, keep track of your WAP’s one-month blended yield and the WAP value at the start of each one-month experiment and, of course, your inflation-boosted normal monthly expenses.
To make all that jargon easier to understand and logically track, here are examples with amounts and percentages to help you make sense of what I’m advocating.
Let’s say at age 50, your WAP’s annual yield is about 6 per cent. Therefore, your monthly yield would be 6 per cent / 12 = 0.5 per cent.
If your WAP value is RM700,000 at age 50, your passive annual income from the portfolio is going to be 6 per cent x RM700,000 = RM42,000. Dividing by 12 tells us your monthly passive income flow will be RM3,500.
Finally, let’s say at this point in your life your normal monthly expenses are RM7,000. So your retirement funding cover (RFC) is 50 per cent (= (3,500/7,000) x 100 per cent) of what you would need if you were to retire at age 50, which thankfully you aren’t planning to do.
Given that low RFC, it’s good that you still have a decade to boost your retirement age RFC ratio to, ideally, above 1.0 or 100 per cent. (You’ll notice I’ve left out, for simplicity, your comforting and steadily growing EPF balance. You should, when running your numbers, take into consideration the valuable funding boost all EPF contributors gain from this excellent national superannuation fund.)
In next week’s column, I will continue this analysis and the ensuing steps of this modelling process. Till then, mull over your personal finance numbers and gather information over the coming week to help you better plan for a wonderful future retirement.
© 2018 Rajen Devadason
Rajen Devadason, CFP, is a licensed financial planner, professional speaker and author. Read his free articles at www.FreeCoolArticles.com; he may be connected with on LinkedIn at https://www.linkedin.com/in/rajendevadason, or via rajen@RajenDevadason.com. You may follow him on Twitter @RajenDevadason