The U.S. retirement savings system puts a lot of onus on the individual to care about that long term retirement planning.
Christine Benz, Head of Personal Finance for Morningstar.com, mentions five mistakes that American investors have made that investors in India can learn from.
Lesson I
Investing too conservatively for your time horizon.
Investors often hear, ‘pay attention to your risk tolerance when allocating your assets’. So, I think oftentimes, they think about short-term risk volatility and they get very bothered by short-term volatility. And so, I think the key message is to bear in mind that if you do have a long time horizon, you're going to have to put up with some of that short-term volatility. But in the end, typically investments that are more volatile over the short-term will produce better returns over the long term.
For people who are in their 20s and 30s, it means that they want to have a portfolio that's predominantly invested in stocks, ideally some sort of a globally diversified stock portfolio. And then only as they get closer to their retirement age, they want to tip more of the portfolio into safer securities.
Lesson II
One thing we often see is that investors tend to want to drive with the rearview mirror. So they look at whatever has performed best in the recent past and they decide that's where they want to put all their money. Oftentimes that is the category that is the most highly valued. So the security prices have already enjoyed a strong run-up or perhaps it just has a lot of risk baked into the asset class.
Shopping based on past returns is often not a good idea. You really do need to think about the fundamentals of the investment, think about its risk reward characteristics, think about, if you're investing in some sort of a fund, product, think about the types of investments that are in that fund, and think about whether they are attractive or not.
Lesson III
Ignoring fees is a mistake that we see investors oftentimes making when managing their portfolios. And those fees, even though they seem small and innocuous, because there are expressed usually in just percentage terms, they might look like they won't be a big deal. But over time, if you're invested for a period of , say, 10 or 20 years, the difference between a low expense fund and one that charges maybe twice as much, is very substantial in terms of your take-home returns. So do comparisons. Generally speaking, you're better off sticking with the product that has the lower expenses attached to it.
It's not the only driver of your investment but one of the few quantifiable drivers of investment results. So, you do need to pay attention to it.
Lesson IV
Take stock of your total financial picture when deciding whether to allocate assets to your pension. So, for example, if someone has high interest credit card debt, in fact, the best return on their dollars, if they have extra dollars to save or pay down – is to put toward paying down debt rather than investing.
Think holistically about the best return on whatever dollars you have to invest.
Lesson V
The final lesson is not stepping up your contribution rate as your pay increases. One of the most painless way to increase your savings is to make sure that as you get raises, you are actually setting additional amounts aside. That can be a great way to build your overall nice take over time.
As you get close to retirement, it's really important to start taking stock of whether what you've managed to save is in fact on track to keep you inside the standard of living that you're enjoying while you are working.
To watch the video or read the original transcript, click here. The article has been edited to make it applicable to an Indian audience.
