Advertisement
(Photo: http://www.newscom.com/cgi-bin/prnh/20080925/NETH049 )
Moreover, the interactive tool enables users to immediately see the impacton retirement income of changing various factors, such as the amount beingsaved, retirement age, number of years in retirement, asset allocationstrategy, and, for retirees, the monthly amount they expect to spend.
Advertisement
The new Retirement Income Calculator (http://www.troweprice.com/ric) isfar more robust than the web-based tool it replaces. Although the priorretirement planning tool was aimed only at those in or near retirement, it hadbeen the most popular tool on the firm's web site.
The new tool calculates a projected monthly income stream throughoutretirement for those in any phase of retirement planning, taking into accountsuch factors as current savings, future savings in employer-sponsoredretirement plans, as well as other tax-deferred and tax-exempt retirementaccounts, and regular taxable accounts, Social Security and other sources ofincome, the expected number of years in retirement, and investment strategybefore and after retirement. For couples, the calculator accommodates suchdata for each spouse.
Like its predecessor, the new Retirement Income Calculator alsoincorporates the firm's proprietary "Monte Carlo" methodology, providingpersonalized results based on 1,000 potential market simulations, assuming acertain probability that income will be sustained throughout the retirementperiod. This approach provides a more realistic and reliable estimate thansimply projecting results based on an assumed average rate of return on aninvestment portfolio.
"The calculator is designed to provide users with maximum flexibility todetermine if their current plans are on track to meet their financial needsduring retirement," says Christine Fahlund, a T. Rowe Price senior financialplanner. "And if their projected income in retirement falls short of what T.Rowe Price thinks is a reasonable goal from investments and Social Security(e.g., replacing 70% of pre-retirement income), investors can easily revisetheir assumptions and immediately see the impact on their results. By enablingusers to see these tradeoffs, such as when to retire, how much to save, or howmuch to spend, the calculator is a helpful learning tool for retirementplanning as well."
Planning for Retirement
For example, consider John and Mary Smith, a hypothetical 40-year-oldcouple that has already saved $300,000 for retirement and has a combinedincome of $180,000 annually. Together, they are investing 7% of their salariesin their employers' 401(k) plans. In addition, each invests $4,000 a year in atraditional Individual Retirement Account (IRA). Prior to retirement, thecouple's portfolio is invested 80% in stocks and 20% in bonds. Afterretirement, they expect to become more conservative with 60% in stocks, 30% inbonds, and 10% in short-term fixed income securities. They plan to retire atage 62.
As reflected in the summary table provided by the calculator, theirinvestments, along with Social Security income, could provide them with amonthly income of $7,654 in today's dollars, assuming a seven in tenprobability that they will still have money in their portfolio at age 95.
However, they would need $10,500 to replace 70% of their pre-retirementincome from their investments and Social Security combined, a gap of $2,846 amonth. The calculator advises that they could close that gap by investing anadditional $2,126 a month between now and retirement.
Alternatively, if they maintain their current savings rate but work until65 instead of 62, their projected monthly income would be $9,399. If they workto 65 and increase their retirement plan contributions by $600 a month, theirestimated monthly income in retirement is $10,379-closer to the 70%replacement rate T. Rowe Price suggests.
Transitioning to Retirement
Bill and Glenda Wilson are 58 and plan to retire at 63. Together they havea combined salary of $200,000 and are contributing 15% of their salaries totheir companies' retirement plans. They have already saved $800,000. Mr.Wilson is also contributing $5,000 to an IRA.
Their current investment strategy has 60% allocated to stocks, 30% tobonds, and 10% to short-term fixed income securities (60/30/10) but theyexpect to invest more conservatively in retirement, changing their allocationto 20/40/40 at that time. They think they will need to spend about $10,000 amonth including Social Security.
The calculator advises that they should consider reducing their spendinggoal to $6,877, assuming an 80% probability of their savings lasting to age95. They decide that their retirement portfolio may be too conservative sothey change it 40/40/20. Now, they will be able to spend a projected $7,055 amonth. If they decide to continue working to age 67, they should be able tospend $9,637 a month, much closer to their spending goal.
Planning At Retirement
Richard and Ellen Jones are about to retire at 63. Together, they havesaved $1.2 million, with a portfolio of 60% stocks, 30% bonds, and 10%short-term fixed income securities. They expect to need a monthly income of$6,000 including Social Security with the rest coming from their investments.The calculator advises that they could actually afford to spend $6,594 amonth, assuming a 90% probability of still having money in their portfolio atage 95.
While the calculator is a useful planning tool, those seeking apersonalized recommended strategy from T. Rowe Price should consider thefirm's Advisory Planning Services program. A recommendation is provided afterextensive consultation with a T. Rowe Price Advisory Counselor, who thenassists clients with implementing their plan.
This ongoing service enables clients to re-run their analysis online atany time to ensure they are "on track" to meet their goals. The firm'sAdvisory Associates are always available by phone or appointment to offerfinancial planning guidance, and if changes are warranted, provide a newrecommended strategy.
The advisory services are for investors who already have at least $100,000in investment assets (at T. Rowe Price and/or elsewhere). The one-time $250fee is waived for investors with $500,000 or more in assets with T. Rowe Priceand is reimbursed for those who transfer at least $100,000 in new assets tothe firm in connection with the service.
More information on these services is available athttp://www.troweprice.com/advisoryservices or by calling 1-800-844-9424.Advisory Planning Services are services of T. Rowe Price Advisory Services,Inc., a federally registered investment adviser. Advisory Services is asubsidiary of T. Rowe Price Group.
Founded in 1937, Baltimore-based T. Rowe Price Group (Nasdaq: TROW) is aglobal investment management organization with $387.7 billion in assets as ofJune 30, 2008. T. Rowe Price Group provides a broad array of mutual funds,subadvisory services, and separate account management for individual andinstitutional investors, retirement plans, and financial intermediariesthrough other subsidiaries, which also offer a variety of sophisticatedinvestment planning and investment guidance tools. Its disciplined, risk-awareinvestment approach focuses on diversification, style consistency, andfundamental research. More information is available athttp://www.troweprice.com.
Explaining Monte Carlo Analysis Used in Retirement Calculator
Monte Carlo Simulation
Monte Carlo simulations model future uncertainty. In contrast to toolsgenerating average outcomes, Monte Carlo analyses produce outcome ranges basedon probability thus incorporating future uncertainty.
Portfolio and Initial Withdrawal Amount:
The underlying long-term expected annual return assumptions (without fees)are 10% for stocks, 6.5% for bonds, and 4.75% for short-term bonds. Net-of-feeexpected returns use these expense ratios: 1.211% for stocks, 0.726% forbonds, and 0.648% for short-term bonds. The portfolio is either determined bythe user or based on preconstructed allocations that shift in 5% incrementsthroughout the retirement horizon. The initial withdrawal amount is thepercentage of the initial value of the investments withdrawn on the first dayof the first year. In subsequent years, the amount withdrawn grows by a 3%annual rate of inflation. Success rates are based on simulating 1,000 marketscenarios and various asset-allocation strategies.
IMPORTANT: The projections or other information generated by the T. RowePrice Retirement Income Calculator regarding the likelihood of variousinvestment outcomes are hypothetical in nature, do not reflect actualinvestment results, and are not guarantees of future results. The simulationsare based on assumptions. There can be no assurance that the projected orsimulated results will be achieved or sustained. The results present only arange of possible outcomes. Actual results will vary with each use and overtime, and such results may be better or worse than the simulated scenarios.Clients should be aware that the potential for loss (or gain) may be greaterthan demonstrated in the simulations.
The results are not predictions, but they should be viewed as reasonableestimates. Source: T. Rowe Price Associates, Inc.Material Assumptions Include: -- Underlying long-term expected annual returns for the asset classes are not based on historical returns, but estimates, which include reinvested dividends and capital gains. -- Expected returns plus assumptions about asset class volatility and correlations with other classes are used to generate random monthly returns for each asset class over specified time periods. -- These monthly returns are then used to generate hundreds of scenarios, representing a spectrum of possible performance for the modeled asset classes. Success rates are based on these scenarios. Success rate is defined as the percent of market simulations that result in a positive balance at the end of the time horizon. -- Taxes on withdrawals are not taken into account, nor are early withdrawal penalties. But fees, average expense ratios for typical actively managed funds within each asset class, are subtracted from the expected annual returns. -- Required minimum distributions (RMDs) are included. In the simulations, if the RMD is greater than the planned withdrawal, the excess amount is reinvested in a taxable account. Material Limitations Include: -- Extreme market movements may occur more often than in the model. -- Some asset classes have relatively short histories. Expected results for each asset class may differ from our assumptions with those for classes with limited histories potentially diverging more. -- Market crises can cause asset classes to perform similarly, lowering the accuracy of projected portfolio volatility and returns. Correlation assumptions are less reliable for short periods. -- The model assumes no month-to-month correlations among asset class returns. It does not reflect the average periods of "bull" and "bear" markets, which can be longer than those modeled. -- Inflation is assumed to be constant, so variations are not reflected in our calculations. -- The analysis assumes a diversified portfolio which is rebalanced on a monthly basis. Not all asset classes are represented and other asset classes may be similar or superior to those used.
SOURCE T. Rowe Price Group, Inc.
