3Q 2016 | Volume 17, Issue 3

Plan PerspectivesRetirement Insights From Morgan Stanley

When Is the Right Age to Retire?Surprise — there is no right age, but chances are, you already knew that. Some people genuinely want to work their entire lives, albeit not necessarily at their current job. Others can’t wait to do what they’ve always wanted to do, if only they had more time.

For many people, however, determining when to retire is not a choice. To understand whether you can truly retire when and how you wish, it is critical that you go through the exercise of projecting retirement expenses and identifying the sources of income available to help you meet those expenses.

How Much Will You Need to Retire as Anticipated?One popular rule of thumb is that retirees will require 70%-80% of their preretirement income1 to maintain their lifestyle. It’s probably a good idea for you to go through a more precise process and arrive at more exact figures.

A good way to start is by categorizing expenses as follows:• EssENtiAl — expenses like mortgage payments,

food, health care and taxes. • iMpoRtANt — expenses like your cellphone

and computer.• DiscREtioNARY — expenses like travel,

entertainment and dining out.Take inventory of what you’re spending now and what you believe you’ll be spending in the future. Also, determine whether or not you plan to reduce expenses in some areas once you stop working.

What sources of income Are Available to You?Certainly, the assets you’ve accumulated for retire-ment are a big part of the equation. Converting those assets to income, however, can be a challenge in the current economic environment.

1 http://money.usnews.com/money/blogs/on-retirement/ 2013/08/02/7-rules-of-thumb-for-retirement-planning

2 Morgan Stanley | 2016

plAN pERspEctivEs

Interest rates remain near historic lows and yields on bonds, CDs and other fixed income vehicles are equally paltry. Gone are the days for most people when they can simply reinvest their stock portfolios in municipal or corporate bonds and live off the interest. To provide yourself with sufficient income that will last as long as you live, you might think about:

• sEEkiNg totAl REtuRN Don’t make the mistake of being too conservative in your investment approach, especially in today’s low interest rate environment. Consider allocating a portion of your assets to stocks even after you retire. The idea is to accumulate assets sufficient to generate income not just during your initial retirement years, but 10, 20 or even 30 years later. Remember — with today’s longer life expectancies, many people spend as many years in retirement as they do at their careers.

• FoRMulAtiNg A WitHDRAWAl policY Because low fixed income yields make it difficult for retirees to simply live off interest and dividends from their investments, you may have to determine how much of your retirement savings you can tap into on an annual basis. According to a statistical analysis called Monte Carlo Simulations, you can withdraw 4% of your assets a year without depleting them for approximately 25 years. This strategy has a simulated success rate of 90%, which means there’s a 10% possibility of failure.2 In addition, there’s always the chance that you could live longer than 25 years and run out of money at age 90 or so. Or there’s also a possibility that you might lose your job, retire earlier than anticipated and begin making withdrawals years before age 65.

Clearly, this 4% solution is not viable for every investor. Certainly, it offers a number of benefits. You can invest in whatever you want and withdraw more than 4% on occasion, if your investments are performing well. But will you have

the discipline to reduce withdrawals in years when the market declines? And will you be lucky enough to avoid significant losses?

sources of income Beyond Your portfolio?

Unless you’re lucky enough to receive income from an inheritance, real estate holdings or a family business, you probably have only the following sources of income available to you:

• sociAl sEcuRitYYou can begin taking benefits as early as age 62, but your benefits will be reduced from what they would be if you waited until you reached what the Social Security Administration calls Full Retirement Age.

Depending on the year you were born, your Full Retirement Age may be 66, 66 plus a number of months or 67. By waiting, you receive a larger monthly payment and you are not penalized if you decide to continue working. By applying for benefits at age 62, your benefit is reduced by $1 for every $2 you earn over a specific yearly threshold. This year, that threshold is $15,720.3

Of course, taking benefits early isn’t necessarily the wrong decision if you really need the additional income, but, generally speaking, the longer you can wait, up until age 70, the better.

• EmployEr-SponSorEd pENsioN plANIf you’re lucky enough to work for an employer who offers a traditional defined benefit pension plan, congratulations. Fewer and fewer employers offer these types of plans, preferring to provide their employees with 401(k) and other defined contribution plans.

People covered by traditional defined benefit plans receive guaranteed income

payments at retirement that last as long as they live. The size of the payments depends on their compensation and longevity with the employer. If you are one of these fortunate folks, consult with your plan administrator or human resources department to determine:

• HoW MucH will you receive and when will you be eligible to receive it?

• HoW loNg do you have to remain with your employer to be vested in the plan? Is there a vesting schedule that enables you to receive partial payments after a certain number of years and increasingly larger payments for each year you work beyond that time?

• WHAt pAYMENt stRAtEgiEs are available? Most pensions give you a choice of individual or joint and survivorship payments. Individual payments are larger, but if you predecease your spouse, he or she receives no additional payments. Joint and survivorship payments are smaller, but the spouse continues to receive them after the employee’s passing. Some pensions offer additional payment options that should be considered carefully before making a choice. Once you do make a choice, you can’t change your mind.

surplus or gap?

Now for the big moment. Once you project your retirement expenses and sources of income, is there a gap or a surplus? If there’s a surplus, you’re in great shape. Just keep doing what you’re doing, but consider some of the strategies discussed earlier. If there is a gap, however, you’ll have to determine how or whether you can fill it before your desired retirement date. If this task appears unrealistic, you may have to postpone retirement for a while or perhaps work part-time. A Financial Advisor can help you understand your individual situation and plan accordingly.

2 http://realdealretirement.com/what-you-need-to-know-about-the-4-rule/3 https://www.ssa.gov/planners/retire/whileworking.html (August 18, 2016)

3Morgan Stanley | 2016

Are You taking too Much or too little Risk With Your investments?

AssEt clAss

DollAR AMouNt

pERcENtAgE oF poRtFolio

Stocks $24,000 60%

Bonds $12,000 30%

Cash $4,000 10%

You’ve allocated your 401(k) assets to meet your retirement objectives, time-frame and risk tolerance. Let’s imagine you’ve accumulated $40,000 in your plan and allocated it as follows:

AssEt clAss

DollAR AMouNt

pERcENtAgE oF poRtFolio

Stocks $24,000 40%

Bonds $12,000 20%

Cash $24,000 40%

Outside your 401(k), however, you have $10,000 in a money market fund and another $10,000 in a bank IRA. In total, your assets of $60,000 are invested as follows:

As you can see, your 401(k) and overall asset allocations bear little resemblance to each other. In fact, your overall asset allocation is considerably more conservative than the allocation you formulated for your 401(k). Was this intentional? Or did you simply not think about asset allocation as you accumulated assets in different accounts at different financial institutions?

There is nothing inherently wrong with either of these strategies. The key is whether your overall asset allocation truly reflects who you are as an investor.

take a Deeper Dive

Identifying discrepancies between your overall and 401(k) asset allocation can be the beginning of a process you can use to position your investments optimally for your unique purposes and risk tolerance.

Examine each of your 401(k) investment options and outside mutual funds to determine what securities they actually hold. Do several of them own the same stocks or bonds? Do you have far more exposure to the securities of a specific company than you thought you did? Are any of these companies engaged in businesses you would rather not support? Specific holdings of mutual funds can be found in quarterly reports issued by those funds’ investment managers. Holdings of 401(k) investment options should be accessible on your plan website or through your plan administrator.

pulling Your oars in the same Direction

Your asset allocation doesn’t necessarily have to be the same in every account you maintain. Sometimes, you might want to save for a specific goal that you believe might require you to take a more aggressive or conservative position. Chances are, however, that you have savings and/or investments you’re not earmarking for a specific objective. Perhaps you’re simply saving money as best you can and hoping to build up a nest egg that you can eventually use for retirement or some other long-term purpose.

When you consider these assets with the assets in your 401(k), what’s your overall asset allocation? Use the worksheet below to take inventory.

How did you do? Does your overall allocation resemble that of your 401(k) or is it significantly more aggressive or conservative? Do you have assets sitting in bank CDs or money market funds earning historically low yields? What about mutual funds — do you own any that can be categorized as aggressive and generate wildly fluctuating returns from year to year?

AssEt clAss stocks BoNDs cAsH otHER

401(k) assets

IRA assets

Financial Institution A

Financial Institution B

Total Assets

Percent of Total

plAN pERspEctivEs

Stocks fluctuate in value and may be worth more or less than their original cost. Companies paying dividends can reduce or stop payouts at any time.Asset allocation and diversification do not guarantee a profit or protect against loss in a declining financial market.Investors should carefully consider the investment objectives, risks, charges and expenses of a mutual fund before investing. The prospectus contains this and other information about the mutual fund. To obtain a prospectus, contact your Financial Advisor or visit the mutual fund company’s website. Please read the prospectus carefully before investing.An investment in a money market fund is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although the fund seeks to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in the fund.Past performance is not indicative of future results.Tax laws are complex and subject to change. Morgan Stanley Smith Barney LLC (“Morgan Stanley”), its affiliates and Morgan Stanley Financial Advisors and Private Wealth Advisors do not provide tax or legal advice and are not “fiduciaries” (under ERISA, the Internal Revenue Code or otherwise) with respect to the services or activities described herein except as otherwise provided in writing by Morgan Stanley. Individuals are encouraged to consult their tax and legal advisors (a) before establishing a retirement plan or account, and (b) regarding any potential tax, ERISA and related consequences of any investments made under such plan or account.

© 2016 Morgan Stanley Smith Barney LLC. Member SIPC. KP8653104 CRC1572663 CS 8653104 09/16

Riding Roller coaster Markets Without getting QueasyWhen Great Britain voted to exit the European Union in June, the U.S. stock market, as measured by the Dow Jones Industrial Average, dropped a whopping 611 points in a single day. Never mind that the Dow recovered most of its losses less than a week later. The memories of 2008 were all too vivid for many investors.

Volatility, the day-to-day fluctuations experienced by the market, is difficult for many investors to tolerate. Plunging markets trigger anxiety and send many stock owners scurrying for the relative safety of money market funds, only to regret selling their holdings when the market recovers. Soaring markets foster bravado that too often leads to purchasing stocks at inflated prices. To manage the ups and downs of today’s volatile markets, investors should look beyond performance when considering options for their 401(k). Your objective should be to earn the highest return possible with the lowest degree of risk — or at least a degree of risk you can live with. To determine how risky your investment options are, review the following statistics, which should be readily available on your plan’s website, or printed descriptions of investment options:

• BEtA Beta sounds more complex than it is. It is simply a measure of how volatile an investment is compared to the overall market. The market has a beta of 1.0. If an investment option has

a beta that is greater than 1.0, it is more volatile than the market. If it has a beta under 1.0, it is less volatile. A beta of 1.1, for example, is 10% more volatile than the overall market. A beta of 0.9 is 10% less volatile.

• stANDARD DEviAtioN How much has a stock’s price or a fund’s net asset value strayed from its mean over a specific timeframe. Standard Deviation measures that amount. The higher the number, the more volatile the investment.

• sHARpE RAtio Developed in 1966 by William Sharpe, a Nobel Prize-winning professor at Stanford University, the Sharpe Ratio helps you understand how much risk you are assuming to earn the return generated by a specific investment. The denominator of a Sharpe Ratio is the investment’s Standard Deviation. The numerator is calculated by subtracting the return you would have received by participating in a risk-free investment, like a U.S. government security, from the return you actually earned from your investment. The higher the ratio, the more you are compensated for the risk you’re taking on.

Admittedly, these volatility measures are not simple, but you don’t have to be a math whiz to use them effectively. When considering investment options in your 401(k), look at performance over various time periods, keeping in mind that past performance is not indicative of future results. Also, review the aforementioned statistics. By doing so, you might be better able to withstand the volatility that is so prevalent in today’s markets and ride out the ups and down with less anxiety and greater success.

continue comparing

Now that you’ve begun to analyze your long-term investments in greater depth, take the opportunity to assess each of them for their ability to meet the following criteria:

• pERFoRMANcE How have your investments performed over various time periods? Is there a wide discrepancy among investment options with similar strategies? If so, investigate the alternatives that might be available to you. Before you make any decisions, however, make sure you also determine how much risk was taken or assumed in the instances where superior performance was achieved.

• volAtilitY As discussed in our Riding Roller Coaster Markets Without Getting Queasy at right, you can determine how smooth or rocky a ride various investment options experienced on their way to the returns they achieved. If you can find comparable returns with lower volatility, you might be able to rest more easily when markets turn choppy.

• FEEs Returns on 401(k) investment options and, for that matter, mutual funds, are usually posted net of all fees and expenses. Investment management organizations charge fees for managing fund portfolios. In addition, 401(k) plans may charge participants for administration and recordkeeping. All these fees are taken off the top of any returns generated. In fact, even if there are no returns, fees are charged against assets in the investment.

Review your portfolio, and once you assess your investments for performance and volatility, determine how much they’re charging. Even a one percentage point difference can add up over time — reducing the dollars that could be going toward your retirement and other long-term objectives.