How to Ease Your Fears About Retirement

On a recent drive through the Gulf Coast around Naples, Florida, I never would have guessed I was at or near the epicenter of the real estate bubble’s collapse, not to mention an ongoing banking and financial crisis. But behind the lush palm groves, tranquil estuaries and canals, and manicured entrances to the many gated communities reside a multitude of seemingly affluent people with financial woes.

Given that southwest Florida has a high concentration of retirees, the collapse in the real estate and stock markets has hit especially hard. Retirement savings have been decimated. These are people whose prime working years are behind them, who thought they had saved adequately. Since they’re retired, they can’t replenish their losses by working. Their life expectancies probably aren’t long enough for the markets to recover and recoup their losses, let alone contribute to gains. They’re furious with their brokers and financial advisers. I was asked repeatedly: What can we do?

Obviously, there’s no simple answer, and no one answer, since it depends on individual circumstances. But as I explored this with several people, some general themes emerged.

It’s clear that many retirees or near-retirees are indeed in financial straits, though I suspect the number is far smaller than is widely perceived. In every one of these cases I encountered, the problem is simple: lack of diversification. Given that this is the most basic rule of personal finance, I have been astounded at the number of stories I've heard and read about older people who had all or most of their savings in Wachovia, or Citigroup (C), or Fannie Mae (FNM), or— worst of all— under Bernie Madoff’s management.

Another broader category consists of retirees who kept most or all of their savings in the stock market and have experienced declines along the lines of the market averages, in many cases about 50% from the 2007 peak. This is especially puzzling since it wasn’t all that long ago that the collapse of the tech bubble caused major stock market losses, which should have provided a vivid object lesson in risk and the value of diversification. But as one elderly woman told me, those were tech stocks, “not Wachovia.”

It doesn’t get us anywhere to say that these people simply deserve their unfortunate fate. At their age, they should never have exposed themselves to such a high level of risk, which is easy to see with benefit of hindsight. I’ll come back to what they can do now.

For a much larger number of retired people I’ve met, things aren’t nearly so bad as they fear. They were reasonably well diversified. Their brokers’ advice wasn’t as bad as they now think. They had sufficient assets in ultra safe Treasuries and certificates of deposit to maintain their lifestyles indefinitely. True, they also had substantial assets in their homes and in the stock market. They have been shocked by the plunge in value of the securities on their account statements. To them, my message is simple: it doesn’t matter all that much. They may feel poor, but they’re not. They complain that they won’t be leaving their children as much as they had hoped. But their children are younger: They can leave them the assets and let them live to see them appreciate. They complain that they can’t give as much to charity. Charities have an even longer time horizon. They will still be grateful for the assets. If not— if they no longer get invited to the charity ball— then they’re giving to the wrong people.

There is an even larger group for whom the prospects are even brighter: young retirees, or near retirees, people in their 50s and 60s. By this age most people have at least some of their savings in relatively safe, lower yielding assets, but may still have a large amount in stocks and riskier assets. The old rule of thumb has been that your age should equal the percentage of your assets in safe, fixed income assets. Like all rules of thumb, I find it a crude measure, but the point is a good one: As you age, you need to move more of your savings into lower risk, less volatile assets. Last week I bought some Treasury Inflation-Protected Securities, or TIPS, which I now consider an excellent low-risk alternative to CDs since CD yields have dropped and Treasury yields are at historic lows. Ten years ago I would never have considered something so safe and stodgy.

Given ever longer life expectancies, early retirees and near retirees can expect to live ten, 20, even 30 years or more. With that long a time horizon, stocks are very likely to recover everything they’ve lost. In my view, people this young should continue to invest in riskier assets like stocks while gradually adding to their fixed-income positions as they age. Indeed, the lower the market goes, the more compelling is the case for increasing risk, even over shorter time periods. Even during the depths of the Great Depression, some of the sharpest gains occurred soon after the market bottomed in July of 1932, years before the Depression ended.

For the young and middle-aged, the sharp drop in their net worth is at worst irrelevant, and at best cause for celebration. Their peak earning years still lie ahead of them. They should be saving as much as they can now and putting it into the stock market at these depressed levels. Given the sharp drop that has already occurred, the long-term outlook for stocks and many other riskier assets is better than it’s been in years.

And now back to those who really are in dire straits. The choice is stark, and not very satisfactory. They can embrace a very high level of risk, which is the only way to rapidly recoup losses in a short period. There are relatively convenient ways to do this, such as the ProShares family of exchange-traded funds. The ProShares Ultra funds are designed to double the return of the underlying index (for more details visit ProShares' web site). I’ve never owned such a leveraged fund, and let’s be frank: This isn’t that far from gambling. They can place a bet on the market, and then pray that it rallies. Daunting as this prospect may seem, at least their odds are better than they were a year or two ago.

Or they can move their remaining assets to safety, accept very low returns, and drastically scale back their spending and lifestyles. Maybe they can’t afford the Naples area anymore, or even a second home. Plenty of people have worse problems.

(Correction: As originally published, this story said the stock market bottomed in June of 1932. The bottom was July 1932.)