I once heard retirement described as 500 holidays: if you retire at 65 and live for 20 years, that’s 7,305 days to fill. Break this up into two-week holidays and you have to plan for about 500.
It’s the most engaging way I’ve found of broaching the subject of pensions and long-term saving – topics doomed to languish at the bottom of “interesting conversations I’ve had” lists. If nothing else, it fills the imagination and makes us think about what we aspire to do when we stop working.
It also gives us an idea of how expensive retirement might be, which is extremely important, as most of us underestimate how much money we may need to live on.
So what’s the action plan?
I’m a firm believer in the principle that the earlier we start saving the better. The power of compounding is not to be underestimated and even small amounts can add up over time. But, in reality, it’s not until we reach our forties, or even fifties, that most people have enough disposable income to start saving seriously. At this age, we’ve got used to accounting for mortgage payments, childcare costs are usually less of an issue, and we’re hitting our peak earnings.
It’s not too late if you haven’t started, but it is crunch time. You have 15 to 20 years of earning to sort out your finances so that you can live comfortably when you stop working and start having all those holidays.
The big number
How much you need to save depends on what type of holidays you want. Have you dreamed of retirement being the time you finally travel the globe? Or do you want to take up a hobby closer to home and the family? There is no right or wrong answer – different things make different people happy. But if you want to live your dreams you need to be able to fund them.
Arriving at your final number can be a bit daunting. To give you an idea, a very simple calculation is that £100,000 could give you 3% to 5% a year to live on – mainly from income with a bit of capital thrown in for difficult years.
So if I need £30,000 a year to live on, I need to save between £600,000 to £1 million.
How to get there
Don’t despair: with a 20-year investment time horizon, a significant pot of money can be achieved. If you had invested £40,000 in a UK equity fund back in 1998 – 20 years ago and two bull and bear markets later – and not added a penny since, you could still have been between a quarter and a third of the way towards your goal. As you can see from the table, the best-performing funds* would have turned that initial investment into a pot worth more than £314,000.
That said, most investors wouldn’t, and shouldn’t, rely on just one investment. We all know what can happen if you have all your eggs in one basket. So, as your investment grows, so should its diversification.
Early on in your 20-year timeframe, you could choose to invest in global equities or smaller companies, for example. Funds that encapsulate both ideas are Rathbone Global Opportunities – a fund that invests in companies of all sizes but has a bias to smaller and medium-sized ones – and Baillie Gifford Global Discovery, which looks for fast growth, smaller businesses and invests in them as they grow. For those who prefer investment trusts, F&C Global Smaller Companies** is worth a look.
Best-perfoming UK funds over the last 20 years
| Fund name | Value of £40,000 invested 20 years ago |
|---|---|
| Fidelity Special Situations | £314,312.09 |
| TM Cavendish Opportunities | £277,781.86 |
| Schroder Recovery | £256,680.37 |
| GAM UK Diversified | £251,074.07 |
| Marlborough UK Multi-Cap Growth | £244,303.44 |
| BlackRock UK Special Situations | £232,041.51 |
| Artemis UK Select | £230,020.60 |
| Invesco Perpetual High Income | £219,871.91 |
Source: FE Analytics, total returns on £40,000 invested, 25 May 1998 to 25 May 2018
Later on, you may wish to add some lower-risk fixed income funds such as Fidelity Strategic Bond or AXA Sterling Credit Short Duration. Or you may like to leave the asset allocation to a professional and invest in a multi-asset fund such as Premier Growth & Income or Jupiter Merlin Income.
“To live your dreams you have to fund them”
Whatever products or funds you decide to invest in, make sure you review your holdings at least once or twice a year to ensure your portfolio is still on track to meet your goal.
Bonnes vacances!
*Source FE Analytics, total returns of funds in the IA All Companies and IA UK Equity Income sectors over 20 years to 25 May 2018. These funds existed in 1998 and still exist today.
** Denotes a member of the Moneywise First 50 funds for beginner investors: Moneywise.co.uk/first-50-funds.
Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. Mr McDermott’s views are his own and do not constitute financial advice.
DARIUS MCDERMOTT is managing director at Chelsea Financial Services and FundCalibre
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