WSJ Issues Grim Picture on Retirement Savings
According to a recent story in The Wall Street Journal, American retirement savings are in crisis.
Nearly 50% of U.S. households did not own a retirement savings account, while the ones that did owned the 401(k) variety over the defined-benefits pensions, 14 to 1 (33% vs. 2%). Across all groups owning any type of retirement account, median retirement savings stand at $50,000. (Source: “The Champions of the 401(k) Lament the Revolution They Started,” The Wall Street Journal, January 2, 2017.)
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Considering that experts recommend people amass at least eight times their annual salary to retire, this woefully misses the mark. According to the U.S. Federal Reserve, the average median household salary in 2015 was $54,462.
But it gets worse. Among workers not privileged enough to own any type of retirement plan, median retirement savings is just $2,500. Yes, you read that number right. You might last a year camping out or sleeping inside a “Winnebago” in a Walmart parking lot, but not much longer.
The golden years of the defined benefit pension plan are not making a comeback. More than ever, it’s imperative that U.S. workers take ownership and allot a significant portion of their incomes to their retirement savings. Relying on social security to bridge the gap seems like a risky undertaking.
Taking a step back, by most accounts, the advent of the 401(k) has been a tremendous success. It is a retirement savings plan sponsored by an employer letting workers save and invest a piece of their paycheck before taxes are deducted. Taxes aren’t paid until money is withdrawn from the account, allowing users to collect compounded interest or capital gains on deferred income tax obligations. It’s a good deal for those with the discretionary income and discipline to max out contributions for the long term.
In contrast, a defined benefit pension plan is an employer-sponsored payment stream, delivered in retirement, in accordance to a predetermined formula based on the employee’s income history, age, and tenure. The most common type of formula used is based on the employee’s terminal earnings (final salary).
Under this formula, benefits are based on a percentage of average earnings during a specified number of years throughout the worker’s career. As such, these payouts are not subject to volatility or market drawdowns at any given time. These payments are reliable and predictable (assuming the parent company does not file for Chapter 11 reorganization).
While, over the long term, structured 401(k) asset allocations (quality stocks and bonds) generally perform well, they’re nonetheless subject to extreme market volatility, which can drastically affect the predictability of retirement earnings versus defined benefit plans.
For an equities-exposed worker retiring in late 2008 or during the NASDAQ bubble, this volatility has caused a multitude of adverse behaviors, from retirees dumping assets at fire-sale prices to redeeming lump-sum payments at punitory rates. Human beings are irrational creatures after all, and forever will be.
