Applying a Growth Rate
Let me back up from my last post and explain this in a different way.
Here is an example of how money grows: Let’ assume that you invest a dollar at 10% percent for three years. Determining what you have at the end of the three years is a matter of simple multiplication:
$1*(1+.10)*(1+.10)*(1+.10) = $1.33
Why the (1+.10) in the formula? Because each year that you earn 10% you have 110% more money at the end of the year than you had at the beginning of the year. At the beginning of the first year, you had a dollar, but at the end of the first year, you had $1.10. At the beginning of the second year you had $1.10, but at the end of the year you had $1.21. At the beginning of the third year you had $1.21 but it earned 10%, so you had $1.33 by the end of that third year.
Got it?
Saturday, February 26, 2011
Sunday, January 16, 2011
Projecting the Balance of Your Retirement Assets
This post covers:
-Making a Retirement Budget
-Understanding Inflation
-Estimating the Growth of Your Assets
There’s an entire generation of securely retired individuals who spent the best years of their lives swallowing goldfish, stuffing phone booths, and pole-sitting. And why did those once young folk pursue such hi-jinx and hilarity? Why, to get out of making a personal budget, of course.
Create a Retirement Budget
Creating a retirement budget is a basic exercise required of everyone who wants to make a wise retirement decision. To create a budget, first begin with the biggest and most important expenditures and work your way down to the trivial. Big items include things such as house payments and car payments. Be sure to determine not only how big they will be, but how long they will last into retirement.
Beyond the big ticket items, there are always the smaller, yet steady, bills such as the electricity, gas, water and groceries. If you don’t have a good idea of what all of your expenditures are, you must consciously study your spending habits to find out!
Listing Your Assets
Next, you need to take inventory of your assets. This includes everything that you have that can be used for living expenses. List how much money you have in the bank, as well as in other investments such as stocks, bonds, mutual funds, retirement accounts, and pension plans.
Once you’ve listed the current value of your assets and your estimated in-come needs, you will need to adjust the amounts for future growth and in-flation. There will be more on inflation in a few pages.
Asset Growth
There are basically two ways to grow your assets: One way is to lend money and charge interest for it. This is what you are doing when you buy a bond. Alternately, you can hold an asset that may grow in value, such as a stock..
Calculating the Future Value of Your Investments
In order to determine what your retirement assets will be worth in the fu-ture, you need to apply a growth rate to the asset and an inflation rate to the value of a dollar. The next section explains how to do this.
Applying a Growth Rate
Some low risk investments such as bank accounts and certificates of depos-its provide stable and predictable rates. Stocks and mutual funds, on the other hand, will provide returns that vary from year to year, and may even lose value. Estimating the future value (FV) of such assets can be compli-cated; however some basic rules apply.
In order to estimate the growth rate of your assets, review their historical returns. For instance, if you own AT&T stock, not only should you review the history of the returns of the stock, but also the returns of the telecom-munications sector, and finally the returns of the stock market as a whole.
One common estimate states that historically a diversified pool of stocks can earn 10% per year over the long term. However, in a given one-year period, the return could be as high as 40% or as low as negative 40%.
Below is an example of how to calculate the future value of a dollar based on a growth rate of 10%:
Year Beginning Balance Earnings Ending Balance
1 $1.00 $1.00 X 10% = $0.10 $1.10
2 $1.10 $1.10 X 10% = $0.21 $1.21
3 $1.21 $1.21 X 10% = $0.33 $1.33
4 $1.33
Based on this calculation, if you invest a dollar at 10% for three years, you will have $1.33 at the beginning of year 4. Of course, there is no guarantee that your investments will behave in the future as they have in the past.
-Making a Retirement Budget
-Understanding Inflation
-Estimating the Growth of Your Assets
There’s an entire generation of securely retired individuals who spent the best years of their lives swallowing goldfish, stuffing phone booths, and pole-sitting. And why did those once young folk pursue such hi-jinx and hilarity? Why, to get out of making a personal budget, of course.
Create a Retirement Budget
Creating a retirement budget is a basic exercise required of everyone who wants to make a wise retirement decision. To create a budget, first begin with the biggest and most important expenditures and work your way down to the trivial. Big items include things such as house payments and car payments. Be sure to determine not only how big they will be, but how long they will last into retirement.
Beyond the big ticket items, there are always the smaller, yet steady, bills such as the electricity, gas, water and groceries. If you don’t have a good idea of what all of your expenditures are, you must consciously study your spending habits to find out!
Listing Your Assets
Next, you need to take inventory of your assets. This includes everything that you have that can be used for living expenses. List how much money you have in the bank, as well as in other investments such as stocks, bonds, mutual funds, retirement accounts, and pension plans.
Once you’ve listed the current value of your assets and your estimated in-come needs, you will need to adjust the amounts for future growth and in-flation. There will be more on inflation in a few pages.
Asset Growth
There are basically two ways to grow your assets: One way is to lend money and charge interest for it. This is what you are doing when you buy a bond. Alternately, you can hold an asset that may grow in value, such as a stock..
Calculating the Future Value of Your Investments
In order to determine what your retirement assets will be worth in the fu-ture, you need to apply a growth rate to the asset and an inflation rate to the value of a dollar. The next section explains how to do this.
Applying a Growth Rate
Some low risk investments such as bank accounts and certificates of depos-its provide stable and predictable rates. Stocks and mutual funds, on the other hand, will provide returns that vary from year to year, and may even lose value. Estimating the future value (FV) of such assets can be compli-cated; however some basic rules apply.
In order to estimate the growth rate of your assets, review their historical returns. For instance, if you own AT&T stock, not only should you review the history of the returns of the stock, but also the returns of the telecom-munications sector, and finally the returns of the stock market as a whole.
One common estimate states that historically a diversified pool of stocks can earn 10% per year over the long term. However, in a given one-year period, the return could be as high as 40% or as low as negative 40%.
Below is an example of how to calculate the future value of a dollar based on a growth rate of 10%:
Year Beginning Balance Earnings Ending Balance
1 $1.00 $1.00 X 10% = $0.10 $1.10
2 $1.10 $1.10 X 10% = $0.21 $1.21
3 $1.21 $1.21 X 10% = $0.33 $1.33
4 $1.33
Based on this calculation, if you invest a dollar at 10% for three years, you will have $1.33 at the beginning of year 4. Of course, there is no guarantee that your investments will behave in the future as they have in the past.
Wednesday, November 24, 2010
Retirement Planning
If you're looking for Retirement Calculators to help you model your retirement income, you need to understand their inner workings.
Unfortunately, the best retirement calculators are also the most complex, and since they are built with the focus of giving you an answer, they usually are not also built in explaining very well the concepts, features, and steps that they are employing.
Take for instance the concept of monte carlo analysis. This is when random number generation is employed in an iterative process to produce a large number of results. These results are then statistically analyzed to determine the probability of meeting the threshold for a successful retirement. A financial planner could explain that over and over again, but most people learn visually, and therefore, it would be great if there was a free tutorial that could show exactly what was going on behind the scenes. In fact, there is free online software just like that at http://www.myretirementlibrary.com/. So, don't hesitate to check it out!
Subscribe to:
Posts (Atom)