investing for retirement: just tell me what to do!

Some people love to dive into new subjects; they take a hankering to learn about, say, computers, and the next thing you know they’re telling you stories of DEC and Xerox with stars in their eyes.

Some people, however, can’t be bothered. They want to know what a decent course of action is, and all they care about is that the advice comes from someone they trust. They don’t want to know the whys and wherefores; they just want something that works. They’re busy folk, and they have better things to do.

This post is for them.

If someone stopped me on the street and asked me how to invest for retirement, this is probably what I would tell them. I’m not going to go into details here; rather, I’m going to cover things in as broad strokes as I can, in order to cover as much area as possible. There will be posts in the future that hash out the details. (If you leave a question in the comments, chances are I’ll post about that sooner, rather than later.)

Standard caveats apply: your mileage may vary, you take responsibility for your own actions, and 2008 may in fact happen all over again.

Ready? Let’s go.

How much money should I put away for retirement? If you have any debt that’s at a 9% interest rate or higher, the answer is 0. (Possibly if you have debt at a lower rate, too, but 9%? Get out of town!) “Invest” that money in paying off your debt.

Second, think about what would happen if you were to die or become disabled. If there are people depending on you, strongly consider term life insurance and/or disability insurance, respectively, to cover you until you reach retirement age. (Yes, these subjects will eventually have their own posts.)

Once the high-interest debt is gone and you’re comfortable with your insurance, save up to the limit of your employer’s 401(k) match.

After that, things get tricky; this is one of the most individual aspects of saving for retirement. Here’s a rule that will work for most: whatever you’re saving, increase it by 0.5% of your total income every 6 months. (If you’re rapidly approaching retirement and have ground to make up, and/or have a lot of disposable income, shoot for 1% or higher.) The increases are small enough that you won’t feel like you’re sacrificing the present (and your youth!) for the distant future, but over time you’ll start putting away truly impressive amounts of cash.

What vehicle should I use for the money — 401(k), IRA, brokerage, what?

First rule: contribute to the limit of your employer’s 401(k) match. As anyone will tell you, it’s free money.

Second rule: if at all possible, put it in a tax advantaged account. That means no non-IRA brokerage until you’ve maxed out everything else.

Beyond that, the choice is less important. In general, a good order is this: 401(k) to match, Roth IRA (if possible) to max, 401(k) to max, brokerage account.

Finally: what should I invest in?

Take a stab at what age you can reasonably retire. If you have no earthly idea, 65 isn’t a bad number. Figure out what year it will be when you turn that age. Round up (to a later year, and a higher stock-to-bond ratio) to the next higher multiple of 5 if you’re feeling aggressive; round down (to an earlier year, and a lower stock-to-bond ratio) to the next lower multiple of 5 if you’re feeling conservative. As an example: If I’m 34 this year and pick an (arbitrary) age of 65 at which to retire, that will put me at (2012+(65-34)=)2045 or 2040.

Next, put your money in a target date retirement fund for that year. If your money’s in a 401(k), that’s easy; you’ve only got one option for any given year. If it’s in an IRA with a big brokerage like Schwab, Fidelity, T. Rowe Price, or Vanguard, use their funds (e.g. Fidelity Freedom Funds or Vanguard Target Retirement Funds): generally, you’ll be able to invest in it with little or no fees (beyond the expense ratio, of course). If you don’t have a brokerage, or don’t like yours, I highly recommend Vanguard (and no, I don’t have any relationship with them, other than using them for our personal accounts). If you don’t have the minimum for a given fund, put the money into an online savings account (e.g. ING Direct) until you do.

That’s it. No, really, it’s that simple. As I said, your mileage may vary, but the advice above will get 90% of you 90% of the way there. Is it what I would advise if you were to hire me to take a look at your situation in particular? No. But it’s not far off, either. (And yes, there will eventually be a post on how to handle your investments/withdrawals in retirement, which is a whole other matter.)

Questions? Let ‘em fly.

4 thoughts on “investing for retirement: just tell me what to do!

  1. Target date funds are the “easy answer”, similar to the always-right answer in biology (“Increased surface area!”) or the always-right answer in European history (“So Russia can get a warm-water port”). But there’s an escalating degree of difficulty based on the selection of fund-types available in 401(k)s, and the various permutations of Roth/Non-Roth IRAs and 401(k) plans.

    You’re assuming that people have target date retirement funds available in their 401(k) plans. Given the lousy reputation many plans have, this may not be a safe assumption; my own 401(k) does not have such a fund. This need not be a stumbling block though, as most plans reportedly have some kind of bond index and stock index funds – target date funds are simply synthetic versions of those.

    • Good points!

      Regarding multiple retirement accounts: the idea I’m positing above, though I wasn’t explicit, is to use target retirement funds (with the same target date) for each of your accounts, where possible. Likely, these will be funds from different sources (Schwab v. Vanguard, for example), so your allocation may actually change as you put more money in one account or the other…but it’s still a quite workable strategy. (Contrast this with aggressively timing the market, putting all your funds in cash/gold/real estate, and any number of other less-efficient strategies I’ve seen.)

      Regarding not having a target date fund available: in that case, does your company at least provide you with free access to an advisor? It seems to me that providing neither an advisor nor target-date funds is throwing your employees to the sharks…but regardless, you’re correct, and I’ll definitely be writing a post on crafting your own allocation and glide path later on. (So many posts, so little time…)

      • Different account types serve different ends, and it’s important to make that clear. Using target retirement funds across different account *types* is potentially tax-inefficient (given their nature as [stocks fund + bond fund]), but that is probably an edge condition not normally encountered by people who are starting their careers as savers/investors.

        We do have access to advisors, but I have never spoken to any of them. As I mentioned over New Year’s, all of my 401(k) contributions are directed to an index fund (FUSEX), which is perhaps more aggressive than many would be comfortable with. All other investment accounts are 100% stocks in individual companies, as I support Buffett’s maxim to not buy anything I wouldn’t be happy owning if the market shut down for 10 years or more.

      • It’s precisely this kind of conversation that drove me to write this post in the first place. I’ve seen people look at the various account types, investment choices, tax considerations, and go into a sheer panic. Too many choices! What if I make (*gasp*) a SUB-OPTIMAL CHOICE? (As if anyone could accurately predict the future without a great deal of luck.) And so they do the irrational, but expected thing: they delay making the choice at all. They stay out of the market. They don’t get their 401(k) match. Worst of all, they don’t invest while they’re young, and thus miss out on the power of compound interest. By delaying the choice, they end up making the worst choice — and I can’t blame them.

        In my mind, it’s better to start with the 90% solution and work your way up, than to fall into that trap.

        But to your comments:

        I would argue that the tax-inefficiency is minimal right up to the point where you start investing in a brokerage (non-IRA/401(k)) account. But you make a good point: once you’re investing retirement funds in non-retirement accounts, it’s probably a good idea to do some research or seek personal financial consulting.

        You could do worse than Fidelity Spartan, for sure, but you already knew that. As for individual stocks, I support Buffett’s other maxim, that the vast majority of individual investors would be best served by purchasing passive index funds — especially if said investor doesn’t do stock research as their day job. Otherwise, the wide-moat long-term investment that you think is a Coke may turn out to be a Kodak.

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