Started My Pension

November 9, 2007

Pensions; Not exciting to most people, but you ignore them at your peril.

I started mine this week as my work offered to match my contributions up to 3%of my salary. I was holding off untill I was out of debt, but their contribution means its daft not to start now. Lets say you want £100 in your pot each month, you need to find £50 if your employer matches your contribution. If you put in £39 then the government put in £11 in tax relief (if you pay 22% income tax), ie your contribution is multiplied by 2.5 for free! I asked the chap who administers it for us and there is only a 50% uptake, this is crazy (I accept some people may not be in the UK when they retire)

For those of us who are ambitious, lumping into ISAs until we hit the top rate of tax then transfering to a pension is the optimal way to invest (once you are out of debt, possibly ignoring your mortgage)

Some bits of advice (not rocket science, everyone should know this):

• Get out of debt! Pay off loans and cards, don’t get new ones. Money Saving Expert will help.
• Let compound interest work for you, and start early. If your money grows at 8%, it will double every 9 years (5 doublings, in 45 years). At 10%, it will double about every 7 (6 doublings in 42 years). See double calculator. So 2% more growth per year leaves you with twice as much money at the end! I know this does not account for inflation, but we could just change it to 8% real (ie with inflation subtracted) growth. See Fidelity’s Calculator for a more realistic picture of your retirement pot.
• Buy funds, not individual stocks. All the news you have is old, forget trying to beat the traders who punt by the nanosecond - you cannot win (its not clear they really do, read A Random Walk Down Wall Street )
• Don’t be too risk averse, look at Malkiel’s sleeping scale (percentages are expected returns):
  • Bank accounts: Semi-comatose, 2 to 3 percent. No risk. Does not keep up with inflation.
  • Money markets and cash deposits: Long afternoon naps, 3 to 5 percent. No risk. Will keep up with inflation.
  • Corporate bonds: An occasional dream, 8 to 8.5 percent. Small risk if held to maturity. Inflation safe.
  • Blue chip stock: Some tossing and turning, 9 percent. Moderate to great risk, depending on holding time.
  • Aggressive growth stocks: Nightmares but long term rest, 9 to 12 percent. Substantial risk, but good inflation hedge.
  • Real estate: Vivid dreams, Same as common stocks.
  • Gold and other Commodities: Insomnia, Cannot predict return

• Stay in for the long haul: The UK stock market has grown at 11% per annum on average over the last 100 years, beating inflation and bonds, even with the great depression, black Wednesday and the dot-com bubble thrown in. Over 20 years, stocks beat cash 98% of the time. See Motley Fool for a nice graph and more advice on investing. Look at these (US) ranges in average returns for common stocks over the last 50 years.

  • One Year 52.6 to -26.5 %

  • Five Years 23.9 to -2.4 %

  • Ten Years 17.6 to 1.2 %

  • Fifteen Years 16.8 to 4.3 %

  • Twenty Years 14.6 to 6.5 %

  • Twenty Five Years 11.2 to 7.9 %

See how the volatility dies down over time.

I want to retire early and lead a nice life, starting now is all I need to do.