Do you need a 10 percent return in order to retire on time?
I have clients who have a goal date for retirement. They want to have X amount of money put away to be able to retire by Y date. These retirement savers tend to focus on the rate of return, wanting to see high investment returns to fatten their retirement accounts.

But the truth is returns vary year by year, and high returns can be an unrealistic and risky goal.

The Better Retirement Savings Strategy

For the ten years that ended on February 28, 2011, the average annual returns for the following Vanguard index mutual funds were:

Vanguard 500 Index 2.51 percent
Vanguard Total International Stock Index 6.22 percent
Vanguard Total Bond Market Index 5.32 percent

There certainly were a number of mutual funds that averaged in excess of 10 percent over the past ten years, but the majority of these funds were invested in precious metals, natural resources, emerging markets, and other risky market segments. This is not to say that these types of investments are inappropriate for everyone, but given the risk involved, it is unlikely a portfolio consisting exclusively of these types of investments would be appropriate for most folks saving for retirement.

Instead of focusing on high returns, it’s better to save consistently over your retirement savings lifetime.

Several studies have shown that the largest element of successful retirement savings is the amount saved by the investor. Rate of return is certainly a factor, but regular, consistent savings is the key.

Moreover, the level of risk undertaken by retirement savers is vital. Of those funds that averaged in excess of 10 percent per year over the past ten years, many lost more than 50 percent during 2008. While a hypothetical investor who bought into one of these funds and held on through thick and thin would have earned a handsome return over the last ten years, many individual investors have a knack for poor market timing.

Investment Returns versus Investor Returns

The reality is quite often that investment returns differ from investor returns.

Morningstar measures investor returns as well as the return earned by a fund over a period of time, which is called the investment return. The former measures the returns earned by actual investors based on the timing of their investments in and out of a holding. The ING Russia Fund earned an average annual return for the past ten years of 28.07 percent. The investor return was an average of 19.27 percent per year. The difference is based on the often-poor timing of individual investors. I wonder how many shareholders hung on through the fund’s 71.51 percent loss in 2008?

Many investors sold out in late 2008 and early 2009, just in time to book losses or at least significant declines in their retirement nest eggs. Many of these retirement savers failed to get back into stocks, compounding the drop in their portfolios with a failure to participate in a period of almost unprecedented stock market gains since the market lows in March 2009.

Key Points for Retirement Savers

  • Retirement savers need to focus on the amount saved instead of their returns.
  • Taking excessive risks rarely pays off in the long run. Investors may think they have a high tolerance for risk until there is a severe downside event in the markets. Too often they abandon their investing strategy, sell out at the bottom, and miss the next rally.
  • The best route for solid retirement is a sound financial plan. Establish one yourself or hire professional help if you need to. The first step in either case is to figure out how much you will need to accumulate to meet your retirement goals. How much will you be able to save each year? How much risk are you comfortable with? Once you have the plan in place, track your progress. Are you accumulating enough? Are you ahead or behind schedule? Adjust as necessary.

There is no magic return number to reach your retirement goal. The keys for most of us are saving consistently, having a plan, and closely monitoring your progress.

Roger Wohlner, CFP® is a fee-only financial advisor at Asset Strategy Consultants. Roger provides advice to individual clients, retirement plan sponsors and participants, foundations, and endowments. Follow Roger on Twitter; connect with him on LinkedIn.