If you’re reading this, chances are you’re a millennial (or an X-ennial, as I prefer to think of myself). Statistically speaking, you’re in deep financial trouble. You’ve found your way to a blog about personal finance, so you’re probably better off than some of your peers. But, still, if you’ll allow me to generalize a little bit, our whole generation is afraid of investing. Two-thirds of us have nothing saved for retirement. And among those who do save, most of millennials are relying on a savings account instead of putting our money in the market.
Why is this a problem? Life without retirement savings is bleak and hard. In generations past, people often relied on pensions that paid out living expenses after retirement. You put your productive working years into a company, and they take care of you afterwards. But as we live longer and have fewer children, there’s a big old bolus of elderly people coming through the pipeline, and pension plans everywhere are collapsing. Companies have long ago moved from defined-benefit to defined-contribution plans in an effort to avoid perpetually ballooning costs of paying for retirees with increasingly long life spans (well, until recently). Social Security can be an important part of retirement planning, but with a maximum monthly benefit of less than $2,500, it adds up to at most $30,000 per year, not even twice the federal poverty level for a two-person household. That’s potentially livable, and millions of people do it, but it’s tough and not sustainable for everyone. As legendary passive investing guru (and practicing neurologist! w00t) Bill Bernstein puts it: “The purpose of investing is not to simply optimize returns and make yourself rich. The purpose is not to die poor.”
Why isn’t aggressively saving in a vanilla savings account good enough? Jack Bogle, the founder of Vanguard and pioneer of the index fund, makes “invest we must” the first of his major rules: “The biggest risk facing investors is not short-term volatility, but rather the risk of not earning a sufficient return on their capital as it accumulates.”
How are you exposing yourself to risk by saving in a savings account? One word: inflation. With an average annual rate of inflation of 3.2%, prices double about every 20 years. Even though there’s very low risk of losing your savings account money, the money parked in there is constantly losing value. Even a high-interest online savings account can’t keep up with the pace of inflation (if it did, the banks would be losing money on you). Brute force savings is definitely necessary, but not sufficient, for establishing an adequate retirement nest egg. The only way to reliably outpace inflation and ensure that you can support your standard of living in retirement, is to invest in stocks and bonds.
Of course there’s variability in investments. They go up and down, and at any given time point your invested money may have lost value. But over the long term, investing in the stock market wins, with an average annual rate of return of 10% in the modern era of the stock market (though there’s some signal that in today’s mature market, we may be entering into an era of slightly lower average returns),
By choosing not to invest your savings in assets that at least keep up with inflation, you are guaranteeing that you will lose money.
Investing should be considered a mandatory part of your life strategy. Savings accounts are fine to have for short-term goals where you need access to cash, or for an emergency fund, but they don’t cut it for long-term accumulation because the money in them is constantly being leeched by the vampire of inflation.
It’s not too late! It’s never too late to get started with a plan and take advantage of the power of compound interest over time (the “eighth wonder of the world” according to Albert Einstein). The whole reason this blog is targeted toward younger professionals and families is that there’s still time for you to get this right. Set a plan, just start saving, make it automated if possible to take choice out of the equation, increase your savings when possible, and let time work in your favor.
What do you think? Do you, or does someone you know, keep savings under the mattress (or in a savings account)? Have you struggled to start a savings or investment plan? Let us know in the comments below.