The Recession, Retirement, and America's Debt

I found this article on Yahoo Finance last week regarding Americans retiring saddled with debt. Americans used to retire relatively debt free, however in the last few decades more and more Americans are retiring with significant amounts of debt. It is not a coincidence that more and more Americans are also relying more and more on Uncle Sam to fund some, if not all of their retirement.

"Important measures of financial vulnerability suggest that the growth of debt might not be that worrisome," Mauricio Soto wrote in a 2005 Center for Retirement Research at Boston College report. "The combination of extraordinary asset growth and historically low interest rates allowed households to increase their debt relatively painlessly: their net worth grew significantly, and the portion of income used to pay for debt did not increase."

"This is not to say that baby boomers might not encounter a few bumps in the road or that some groups might not be vulnerable. But baby boomers as a group do not appear to have an immediate debt crisis," he wrote.

That was then and this is now. And now it's not just a bump in the road; the road has seemingly disappeared. The debt load of would-be retirees and retirees is worrisome. Consider: One in five (22%) boomers owe at least $50,000 in non-mortgage debt in 2009, up from 12% in 2007, according to the just-released "Debt: The Detour on America's Road to Retirement," Securian's 2009 Survey of Financial Values and Debt.

And nearly four in 10 baby boomers had non-mortgage debt of $25,000 in 2009, 29% in 2007. Equally troubling, the percent of those in the so-called "silent generation," the boomers' parents, with debt of $25,000 or more was 22% in 2009, the same as in 2007.

This is not a good trend given the skyrocketing of our national debt in recent years. I can't see the future but I imagine that as more and more boomers enter retirement in the next few years, our national debt will be burdened significantly more than even most projections detail given that many of the boomers have significant debt and will require more government assistance. Couple that with an ever increasing life span and we have some issues to sort out with entitlements.

But tackling entitlements is only a symptom of the underlying behavior of living beyond our means. The recession has provided some tough love for many Americans and although it is painful now it will surely get the dangers of debt back on the radar screen for many people.

The great recession of 2008-09 has changed the behavior of many boomers, according to Kerry Geurkink from Securian. Americans, in general, are less likely to view debt as a way to fuel their lifestyle, are saving more for emergencies and looking for ways to save on groceries, transportation and the like. They are paying off car loans, credit-card bills, mortgages, home-equity loans, overdue bills, money owed to family or friends, and other debts.

But boomers are not. "Few are actively paying down their debt," according to Securian's report. Yet "most expect to have fully eliminated all non-mortgage debt within the next five years." And while that might seem a pipe dream, boomers aren't smoking dope when it comes to understanding that their debt will affect their ability to have a comfortable retirement.

By the way, Geurkink says your non-mortgage debt is an indication of just how much beyond your means you might be living.

So what's the takeaway here? In short, boomers must and should make retiring debt-free, even mortgage-free, a priority. And they must do that while making sure they have saved enough for retirement. "Retiring debt-free should be the goal for more Americans," said Geurkink.

The author Robert Powell then goes on to give specifics on ridding yourself of debt around the following four themes. There is some good advice that is worth a read.

1. Set Up a Plan
2. Paying Down Debt Versus Saving for Retirement
3. Don't Borrow From Your 401(k) to Pay Down Your Debt
4. Work Longer

Investing: A Dialogue Amongst Friends

Below I have included a cleaned up email exchange between some friends and I. It all starts with an article that argues against the buy and hold strategy and continues on to touch on a variety of topics. Some of the advice is tailored more towards those in the Air Force because these friends happen to be in the Air Force, however there are some great points for everyone. I have separated each email with a line. Hope you enjoy.

http://finance.yahoo.com/special-edition/active-investor/buy_hold_rip;_ylt=A9G_b88TCfZJavgAihhsLKJ4
Bades, Reeser - I'd like to read your blogs concerning this article...don't let me down!
Franky
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I might have to tackle that one in the BadskiBlog. A few quick thoughts: The guy makes some good points. I have read other books that reference the study in which the 10 best and worst days are removed. The point is noted but I don't really think it enforces his point that buy and hold doesn't work. I think it contradicts it. As long as you were in the game over the life of the study those outliers would not extremely affect you and would only serve to give you an overall gain of 8% or whatever it was. I also think that articles like this one are meant to get readership and stand out in a fairly boring topic. At the root of all the investing madness there lies an asset that you purchase that someone else is willing to buy. The value which they place on that asset is what fluctuates. One can argue in this article that just because something has occurred in the past is no guarantee that it will continue to occur in the future. Great. Point taken. But I think it is even crazier to assume that things have changed so much that people are not willing to buy assets in pursuit of a better return than the "hide your money under the bed" strategy. Regardless of all of these arguments, what other option do you have? Do you pull out completely? Do you become a day trader? Do you resort to a life of crime? I still believe in the buy and hold strategy because psychologically it forces me to put away and save money. Even though I have a net loss over the last 3-4 years I am better off than I would be spending my money and clothes, cars, food, and beer and anyone who says differently is likely profiting from that advice or lying to himself/herself.
Badski
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Agreed. Buy and hold forever is still the way to go. If you are going to jump in and out of the market, do so with no more than 5% of your total portfolio.

Depending upon your tolerance for risk (mine is high), a good mix for young people like us with good jobs and a steady stream of income is 80% stocks, 10% bonds, 10% cash or cash equivalents. If you don't want to have $1M when you retire, go with 50% stocks, 30% bonds, 10% REITs, and 10% cash.

If you can, keep a good amount of cash in a savings account. You don't want to have to sell stocks or bonds to pay for something like a car repair, down payment, etc. Call the banks and negotiate your APY--you'd be surprised how easy it is. Shoot for 2-2.5%...rates are terrible right now.

How much cash should you keep? 10% of your overall combined gross income. My gross income is ~$47K X 2 for the wifey = $94K. I keep around $10K in a savings account. Don't keep a lot of cash in a checking account because you're probably getting about .20% interest.

If you haven't already set-up a Roth IRA with USAA call them today and begin the process--takes ~20 min. You can deposit up to $5,000.00 per year in your account. You will pay taxes up front, but it will grow tax free until you begin withdrawals at age 59.5.

In order of precedence:

1. Roth IRA
2. TSP (operates like a traditional IRA with higher limits)
3. Traditional IRA

Revisit this order if the military ever matches contributions in the TSP (it does for civilians)

What to buy in your Roth IRA:

1. USAA S&P 500 Index Fund, symbol: USSPX
2. USAA or Vanguard municipal or corporate bond funds

What not to buy:

1. Any mutual fund
2. Common stocks

Index funds have very low expense ratios. ~.15-.30%. Mutual funds run anywhere from 1.5-3.0%. Basically you are paying some jackass who knows no more than you do to lose your money.

Use the features at USAA and set-up a monthly deduction so you never even see the money. It will dollar cost average every month.

If you have a lot of cash and don't know what to do with it, try CDs (2.5-4.0% depending on the term) or municipal bonds (tax free both State and Federal).

Final thoughts (my opinion): The American dream is no longer about owning a home. Buy a home only if you've done (1) a ton of market research, (2) plan to live there a minimum of 5 years, 7-10 years is better, and (3) your credit score allows you to negotiate a great fixed rate mortgage--NEVER get an ARM. Don't look at renting as throwing your money away...it's simply a sunk cost of living the dream as an American warrior.

Feel free to contact me if you have questions about what you should be doing.

Love Always,

BK
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Greese,
Agree with everything you said with the exception of real estate but I think we both would agree that we are giving advice based on our own goals and dreams which may not be everyone else's. That is why I lean towards real estate and you don't, yet we agree on 99% of everything else. Good advice dude. Hope all is well boys.
Badski
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Hey boys, I haven't been in the last couple days, but have enjoyed reading the emails so far. Not gonna lie, still haven't gone through the resumes yet, but did read some of Greeser's and Ski's financial advice. I definitely think that even though everyone has different goals one thing should remain very clear...Only 2 out of every 100 or 2% of American's over the age of 65 are able to retire WITHOUT any assistance from Government or other support from children/families etc. The question is...What are you going to do about it? I'm not banking on the Government to help me out when the time comes. If you read the fine print in your Air Force "contract" nowhere does it say that even if you retire that they have to continue paying your "retirement benefits." Therefore, X amount of years from now, even that retirement salary you may suck up 20 years for can go away. Just food for thought when considering your future financial situation.

Devo
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Do either of you know much about Dave Ramsey? If so, what do you think? I bought his book and it's pretty good. He basically says to pay off all your debt right away and you'll have tons of money to invest after that. In theory, you can probably make more money without paying off your debt so quick, but in practice, it never really works that way... http://www.daveramsey.com/etc/cms/baby_steps_2867.htmlc?ictid=Useful_Tools
http://www.daveramsey.com/
Medy
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My parents follow Dave Ramsey's advice and listen to his show. I know a little about what he preaches and what he is all about. In my mind I think he targets people who are struggling a little bit more than you and I but he has some good advice. The one thing I really like about Dave Ramsey is his snowball debt approach. He believes that you should tackle your smallest debt...like a $400 loan on a TV for instance and pay that off first regardless of the interest rate. Once that is paid and you free up lets say $40 a month that was going towards your TV you pay that towards your next lowest debt which lets say is a student loan of $5000. Once you pay that you take the $40 a month from the TV and the $100 a month from the student loan and roll that over towards your credit card debt of $10000 dollars. Many gurus attack the fact that you aren't paying off your highest interest rate first and therefore it is costing you more to pay off your debt that way. But I like how he acknowledges the psychological side of saving and investing which is so often overlooked. These people need success not optimization. The freed up cash rolled into the next debt will be more powerful for them than optimizing paying the least amount in interest. I think the premise behind Dave Ramsey is undeniable. If you have no debt and save you will be well off. However for someone like myself who has developed good financial habits and is committed to investing and learning, avoiding all debt isn't really the best strategy for me in some areas, specifically real estate investing. I also think it is unreasonable for most people to make major life purchases like a car, house, etc without taking on some debt. Concentrating on paying off that debt and perhaps ignoring investing while you are younger is going to have you miss out on some critical wealth building years and the power of compounding interest. Like I said I think his premises are sound from the limited amount I know, especially for people who aren't as disciplined with their money, just don't forget that investing while you are young is extremely important as well.
Badski
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Agreed Badski. Some people need to tangible success in order to tackle their debt. However, from an investment perspective you should first pay off your debt with higher interest rates.
BK
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The more I learn about investing the more I learn to give the political answer of "it depends". Everything depends on who it is. There are some true time tested principles but if you cannot carry them out for whatever reason then whats the point. An example is that right now I have a huge surplus of cash in a money market fund. By all investment guidance and my age group I have way too much money in there. However, for my current situation and goals it is the right amount for me. I need some liquid cash for my next property, the market crash made me realize I did not have enough cash on hand for emergencies, and I to this date have never sold any of my investments. So I knew that I needed some more cash on hand for different life goals and preferences that others may not have. Little did I know that I have actually had a better return on that then my investments but that is besides the point. Now that I have built up that cash fund I am taking advantage of a market that as a whole is on sale! If you take responsibility for everything you do and keep investing and saving you are doing the right thing even if most people will tell you you can do better.
Badski