In this "What's Up, Bro" segment from an episode of Motley Fool Answers, Robert Brokamp channels his inner Nostradamus a bit as he and Alison Southwick consider the current outlook among financial prognosticators. Bro's been compiling the various predictions for what the next decade will look like in terms of returns, and they aren't as rosy as you might be hoping. But as they explain, if you act on those less auspicious assumptions now, you'll give yourself a double bonus in retirement.
A full transcript follows the video.
This video was recorded on March 13, 2018.
Alison Southwick: So, Bro, what's up?
Robert Brokamp: Well, Alison, as I often do at this time of the year, I've been gathering predictions for the future returns of various asset classes from various experts in financial services firms. In the industry these are called capital market assumptions and they're used by financial planners to put into their little calculators to determine whether someone is on track to meet their financial goals.
We know that all predictions are difficult and they're not going to necessarily come true, but you have to choose something. I do this about once a year. I'm not completely done, but I've looked through the capital market assumptions of several firms and here's generally the consensus. Again, these are longer-term returns, like over the next seven to 10 years. No one knows what's going to happen next year.
But, generally speaking, the returns have come down. The consensus, roughly, is that for U.S. stocks they expect about 5.5% a year. Non-U.S. developed-country stocks a little higher at 6.5%. Emerging market stocks at a range of 5-8%. Most people think emerging market stocks are going to do better than other types of stocks over the next 10 years, but there's so much uncertainty about that. That's why there's a range, there. U.S. bonds 2-3% and cash 2%.
You never really know what's going to happen with the stock market. You can have much more uncertainty about what people expect for cash and bonds, but the bottom line is for all of these, these are below historical averages. So, if you were to use a retirement calculator, you would have to assume lower returns. I think that's perfectly reasonable. What does that mean? It means you have to save more, which brings us to the next topic.
That is a recent article by financial planning expert Michael Kitces about basically the one-two punch that comes when you save more, because when you save more you have to learn to live on less. But if you are learning to live on less, that means you don't have to save as much for retirement to replace that income. It's something I've touched on before, but in Michael's article he actually provides some pretty helpful illustrations. Are you ready? We've got two examples.
Southwick: I'm ready.
Brokamp: All right, here we go. We're going to talk about Joe and Sally. They're both 35 years old. They both make $65,000 a year. Joe is going to save 15% of his income and according to Michael Kitces's calculations, Joe could retire at age 65 when you throw in the savings as well as some Social Security.
Now, Sally isn't going to save 15%. She's going to save 25%, but by doing that, she has to learn to live on less. What's the benefit of that? She actually could retire at 56; so, nine years sooner than Joe because she saved more, but she also learned to be happy with less, so her retirement nest egg doesn't have to be quite so big.
While I've talked about this before, I think it's helpful to have that type of illustration. In the article Michael emphasizes a couple of other things. First of all, for younger folks, as you get raises -- and most of your raises happen within the first 20 years of your career -- is to resist the temptation of what's called lifestyle creep, where as you make more money, you spend more money.
He actually touched on the strategy of every time you get a raise, you sock away half of it and you learn to live on only half, which is something we've talked about in previous episodes and that some of our listeners have done to a point where they're saving 40% of their income as they get in their later years.
Now for older people, he talked about how it's actually difficult to resist lifestyle creep if you're having kids. It's difficult. You need a bigger house. All kinds of expenses come with that. In that situation -- and he talked about this in a related article -- you have to resist this temptation again once the kids are out of the house and once the kids are through college. You're going to notice a lot more money that you don't have to spend.
Resist the temptation to spend that on things on vacations, vacation homes, and boats, especially if you're behind in your retirement savings. Instead, you should use all that money and shove it all into your retirement accounts. And if you do that for the last 10 or 15 years of your career, because you no longer have to pay for the kids, you're going to be in pretty good shape.