It Pays to Have a Plan

Monday, 30 March 2009 17:25

This month Trevor writes about the importance of making a financial plan – after all some of the world’s most successful investors won’t do anything without one.

Let’s take Warren Buffet for example. It might interest you to know that before he even buys a single share he already has an exit strategy in place. Buffet’s exit plan is determined by his rigorous buying criteria. He only buys companies and shares in companies that meet his investment standards. When the investment – or company in question – fails to meet these criteria, Buffet sells. His exit plan is determined by his investment strategy. Another of the world’s best-known investors, George Soros, also makes sure that he sticks to a plan. Unlike Buffet, who is famous for buying solid companies at prices less than they are worth, Soros is well known for making his money in the currency and futures markets. His strategy centres upon buying (or selling) investments prior to a market fluctuation that will change the value of that particular investment. In a way he is actually ‘second guessing’ the market.

Despite the fact that Soros’ method appears riskier than that of Buffet, he – like Buffet – is known for sticking to his plan. For example Soros will always ‘get out’ if he feels that his investment is jeopardised, and that the theory he used for making the investment in the first place is no longer valid. Both Buffet and Soros have plans – and they stick to them, and we should too – even if our financial planning and objectives are perhaps not as rigorous as theirs.

Planning for Retirement

Our financial plans will probably take the form of planning for our futures – and especially our retirement. Recent studies have found that almost half of those living in retirement have underestimated the amount of money they need to live on in retirement. A similar number of retirees also underestimated the age they end up living to, in retirement. It stands to reason that – with advances in health and medicine – retirees are living longer. According to recent studies by the United States Department of Labour an average person can expect to retire at the age of 65 and the average (American) male can expect to live 16 years beyond the age of 65. The average (American) female can expect to live 19 years beyond the age of retirement.

So how much do we need for retirement. Although this differs from individual to individual dependent on their circumstances, as a general rule we should plan to spend just 4 to 5 percent of our overall savings per year. We should also plan to live for 30 years after the date of our retirement. With this in mind, if we thought we needed approximately US$3,300 per month to live on during our retirement then we would need to have saved US$1 million by the time we actually retire (US$1,000,000 x 4 percent / 12 = 3,333). Achieving US$1,000,000 of savings sounds daunting when looked at in isolation and out of context. However, it is achievable – with discipline, planning and the miracle of compound interest.

Miracle of Compound Interest

Simply put compound interest allows us to earn interest upon our interest. Over a period of time – in a normal economic environment – it can boost savings tremendously. For example, savings of US$10 per week – at an interest rate of just 2.5 percent after tax and allowing for inflation – would be worth US$35,480 after 40 years. And this is all thanks to compound interest. So when it comes to our retirement we – like master investors Buffet and Soros – should have our own ‘exit strategy’ underpinned by a proper plan. We should also start working on it as soon as we can. After all the earlier we start the earlier we can retire.

It is also important to realise that no one plan suits all. If we have any doubt as to how to achieve our overall financial goals and objectives as well as our retirement plans, we should speak to our personal financial adviser. After all proper planning could mean the difference between an enjoyable retirement and an uncomfortable one.