In investing, as in other areas of life, it can be tempting to focus on the wrong thing. You can spend a great deal of time and energy on stock picking, but there’s the likelihood that you can underperform the market. You can spend time on your asset allocation, and that matters to a great extent. However, there is something even more fundamental than asset allocation to your retirement success and most American’s don’t do enough of it. It’s saving.
Saving has a double benefit. It increases the amount you have to spend in future. It also reduces the amount you need to live on now, and potentially in future. If every time you get a pay rise you spend it, then you’re making your expectations for retirement harder. This is because the amount you’ll need to “pay yourself” to maintain the same standard of living in retirement just went up. Saving does the opposite, you have more money for later, and it will go further as your expectations of what you need to live off have reduced.
American’s used to save a lot more than they do now. In the 1970s the savings rate was over 10% and now it’s under 5%. It has more than halved, that’s a pretty staggering drop when there’s no evidence that market returns have improved. No amount of rigorous investment process can compensate for a halving in the rate of saving. Of course, this isn’t always a voluntary decision. For many Americans real economic hardship prevents saving. However, despite this group there are many others with middle incomes who prioritize short term spending over long term savings. As a side note, if you have high interest debt such as a rolling credit card balance, paying that off is even more important than saving. Having debt is like anti-saving.
There a few approaches that can help you increase your savings rate. As a starting point, take a look at a retirement calculator to determine how much you need to save.
First, think about how you spend money, there are some relatively easy targets like phone bills, car payments and restaurants where a little restraint may free up money for saving without too much pain. Again, the double benefit here is not just that you have more savings, but that the amount you can afford live off declines.
Second, see if your employer can help by looking at all the perks your job offers. If it’s offered 401(k) matching is a great deal. If you employer can increase your savings by 100% or 50% depending on the policy, then that’s a powerful way to save for retirement. Your dollars go further because of the matching. It also makes it easier to save if the money automatically comes out of your paycheck, since it’s much easier to save money that never appears in your current account. Temptation is eliminated
Third, set yourself up for long term success, if you find it hard to save from your day to day budget, consider saving that tax refund, bonus or pay rise. Any of these are new, unexpected money and should be easier to save than the regular pay check. You won’t miss money that you aren’t accustomed to spending.
So, it seems that by historical standards and basic math, America may not be saving enough. However, you can do better, by setting a savings goal and then tactically reducing spending, using 401(k) matching and saving unexpected cash such as a bonus or raise. Just because America as a whole may appear on shaky footing when it comes to retirement, doesn’t mean you need to be.