Drive your retirement savings
03 August 2018 | Markets and Economy
Commentary by Garrett Harbron, head of Vanguard UK wealth planning research.
In some ways, investing for retirement is a bit like driving a car. Driving has some advantages over walking, usually getting you to your destination more quickly and with less effort. However, the advantages of driving are largely determined by how far you have to go. You'll save a lot more time and effort if you're crossing the country than if you're going to the end of the block. Similarly, the longer you have until retirement, the more work investing (as opposed to saving) can do for you, making your retirement goal easier to achieve.
Another way investing is like driving is that, like a car, a good investment portfolio has an accelerator and a brake. In an investment portfolio, though, the accelerator and brake aren't pedals on the floor, but equities and bonds. Equities are the accelerator of your portfolio. They generate most of the returns and can help you get to your destination more quickly. Bonds, on the other hand, are the brake. They may not do much to help you when stock markets are on the rise, but they can help slow you down (reduce your losses) when stock markets aren't doing as well.
Risk isn't always bad…
Some investors avoid stocks because of the risks involved, deciding instead to load up on bonds, which tend to be safer. While this approach will likely result in a portfolio that is less risky than one which holds equity shares, it's like driving down the road with your brakes on – you won't get to your destination very quickly that way.
Consider an investor saving £500 a month in a portfolio consisting entirely of bonds earning 2.5% (our median forecasted return for bonds over the next 30 years). As our chart shows, it would take around 45 years to accumulate a pension pot of £500,000. That same £500 a month saved into an all-equity portfolio earning 6% would only take about 30 years – two-thirds as long.
Time to accumulate £500,000
… but don't drive too fast
Of course, in investing, like driving, pressing on the accelerator too hard and for too long can be dangerous. All-equity portfolios tend to earn higher returns, but they also take on much more risk. This can cause investors to sell during market downturns, turning paper losses into real pound losses. That's the investing equivalent of crashing your car because you were driving too fast.
When driving, getting to your destination quickly and safely requires using both the accelerator and the brake. When investing for retirement, achieving your savings goal requires a combination of equities and bonds. Too much of either will make it hard to reach your destination, but the right combination can make your journey much smoother.
Head of Vanguard UK wealth planning research
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