Performance Gap Reason #1

Last month, I shared the story of Gary and Barbara and the good and bad news I had to share with them.

The good news of them having enough financial resources to comfortably retire right now was, unfortunately, overshadowed by the bad news.

And, that bad news as that if they continued to invest the same way they had, their financial resources would run out in 7 to 9 years.

Now, that may seem like a contradiction, but it’s not.

They do have the resources, but their Retirement Resource Forecasters™ that we use to design their Retirement Blueprint™ has some assumptions built into them, as all forecasts do.

One of those assumptions was that their investments had to earn 1.5% above the rate of inflation. Historically, this has been accomplished without taking huge risks and subjecting yourself to massive volatility. Long term inflation and market performance statistics spell that out clearly.

However, given Gary and Barbara’s actions (as illustrated in their last three years of investment statements that they brought in when we first met last month), it’s extremely unlikely that they’ll be able to accomplish this.

The reason I had to reveal this piece of bad news with Gary and Barbara was the 2011 Dalbar, Inc. research that I shared with you last month.

To refresh your memory, here’s what their study on the results for the 20 year period ending in December, 2010 revealed

  • The Average annual return of the S&P 500 Stock Market Index from 1991 thru 2010 was 9.14% (including dividends reinvested)
  • However, the average annual return of the “average” equity mutual fund investor (not investment, but an investor, i.e. a person) over the same 20 year period was 3.83%
  • The Average annual return of the Barclays Aggregate Bond Index from 1991 thru 2010 was 6.89%
  • However, the average annual return of the “average” bond mutual fund investor (not investment, but an investor, i.e. a person) over the same 20 year period was 1.01% (a difference of 85.3% per year).

What these numbers tell us is that, while the S&P 500 Market Index delivered a strong average annual return over those 20 years of 9.14%, the average stock mutual fund investor (a person, not an investment) only achieved 3.83%!

That means that the average equity investor’s return was 58.1% less than the broad market index each and every year!

Unfortunately, it’s no better with bond investors. The average bond fund investor earned 85.3% less (each year) than he or she could have earned doing nothing but buying an index fund and watching from the sidelines.

How incredible is that?

What Can We Learn From This?

What you can’t help but take away from those statistics is that, while it makes all the news, markets or bad investments are not our biggest problem. Far from it.

The big problem is investor behavior which is driven by their “strategy” or lack thereof.

Forget for a moment about trying to “beat the market” which is what is talked about in all investment forums today.

The average stock mutual fund investor earned 58.1% less each and every year than the S&P 500 market index (a market barometer of “average” returns, not above average)!

In the bond category, it’s even worse. The average bond fund investor earned 85.3% less every year!

Think about that for a moment. Something that we all can control is what our biggest problem is.

I recognize that I’m repeating myself, but I’m doing so to emphasize this critical point.

What Can You Do To Close This Performance Gap?

The first piece of news to share is that there is no ONE reason or one strategy you can use to close this gap.

However, over the last 22 years, there are several “strategic behavioral mistakes” that I’ve personally witnessed that I’d like to share with you that you can instantly employ.

And, these are the biggest reasons why I believe the average investor earned 58% to 85% less than the market averages.

Let’s start today with Reason #1 why I believe this massive performance gap exists: The WRONG “INVESTMENT GOVERNING” ISSUE.

Let me clarify what I mean by “Investment Governing Issue” because it has many important points that I suggest you make a note of.

First, a statistic for you that you may have heard me share with you before: the average retirement age today in America is age 62.

If you are a 62 year old couple (and each of you does NOT smoke), insurance company mortality tables tell us that at least one of you will live to be 92 years of age!

Please take a moment to go back and read that last paragraph before going on.

That means that, if you’re age 62, you’ve got 30 years with which to provide life sustaining income.

30 years!

Not five.

Not ten.

Not even just twenty.

But 30 years!

The Goal: Lifestyle Sustaining Income

By “lifestyle sustaining”, I mean income that keeps your standard of living the same even when prices rise.

Let me put that into perspective for you.

In 1932, a first class stamp cost 3 cents.

In 1971, it was 8 cents.

In 1980, it was 15 cents.

Today, it’s 44 cents!

Not to send a “better” letter, but the same letter.

While there are very few guarantees in life, one that I believe we can prudently count on is the fact that life will continue to get more and more and more expensive.

As I just illustrated, he price to mail the exact same letter costs you three times what it did just 30 years ago.

That’s extremely instructive given the 30 year lifespan of a 62 year old retiring couple.

Protecting Principal vs. Protecting Purchasing Power

Now, here’s the problem from an investment standpoint…what is the dominant governing issue among the overwhelming majority of retirees?

Protecting Principal!

If there’s a loss that everyone tends to focus on managing, this is it. Above all else, “we have to protect our principal.”

And, this governs their investment decisions.

Well, in reality, the biggest financial issue, as I’ve just illustrated, is the protection of your “purchasing power”, or your ability to sustain the same standard of living.

This has nothing to do with wanting “more” for yourself.

It’s about sustaining the same lifestyle.

Even if inflation is only 3% over the next 30 years, and I would strenuously caution you against using that low of a number, but even if it is only 3%, you’ll need $2.44 (2 dollars and 44 cents) to pay for the same goods and services that the dollar in your pocket pays for right now.

That means that if groceries currently cost you $100 per week, they’ll cost $244 for the exact same groceries.

Again, this is not a bonus to protect your purchasing power.

It’s a bare necessity! Yet, the overwhelming majority of retirees have as their #1 goal to protect their principal, when in fact it has to be the protection of their lifestyle sustaining income.

I can’t stress enough how important it is to clearly distinguish between those two goals if you want your hard earned money to be there for you for the rest of your life.

Stay tuned as I’ll reveal the 2nd biggest reason for the horrific performance gap of the average retiree, and what you can do about it right now.