January/February 2014 PNC Investment Perspective Get Ready, Get Set Retirement Jim Dunigan Mr. Dunigan is Executive Vice President and Managing Executive, Investments for PNC Asset Management Group. He has served in a variety of client advisory, investment management and executive roles with PNC since 1987. Planning for retirement is on the forefront of many investors minds, and for some, the event itself looms close. IN THIS ISSUE Get Ready, Get Set Retirement Planning ahead for retirement is something that we have always recommended, but there are factors that make it even more crucial today. One factor is that with the aging of the Baby Boomer population, many people are close to or already in retirement. In addition, it is likely that retirement assets will come from multiple sources that must be considered, potentially including Social Security, company retirement plans, and individual retirement and taxable savings. Finally, the average life expectancy of Americans has been increasing. While this means that many individuals can expect to enjoy a longer retirement, it adds to the challenge of accumulating sufficient assets to live comfortably during that period. Investors seek to build an investment portfolio designed to help them meet individual cash flow needs while preserving capital and managing risk. continued on page 2
2 PNC Investment Perspective continued from page 1 First Steps to Developing a Retirement Strategy Growth of $1,000 Over 40 Years at Various Assumed Growth Rates We believe that the first step to developing an appropriate retirement strategy is an assessment of an individual s desired personal retirement situation and a projection of annual funding needs during retirement. Since most individuals aspire to maintain or even improve their current lifestyle, a good place to begin is with current annual expenses. From that point, an investor should adjust for other factors that will impact cash flow requirements, such as risk tolerance, expected financial responsibilities, other anticipated income, retirement timeframe and any unique considerations. Dollars 16,000 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0 7% 5% 3% 0 5 10 15 20 25 30 35 40 Years Since Initial Investment Source: PNC Projecting Annual Cash Flow Needs in Retirement Risk tolerance How much market fluctuation can an investor tolerate? Expected liabilities Any additional costs during retirement, such as support of an adult child. Other expected income Additional income sources besides retirement accounts. Retirement timeframe Desired retirement age and estimated life expectancy. Other unique considerations Legacy aspiration, surviving spouse needs, increasing healthcare costs, other dependents. Take Advantage of Low-Hanging Fruit Once that first step has been taken, there are a number of other components to developing a retirement strategy. One of the most important and most impactful areas we help investors focus on is starting to set aside money early and taking the free money. Starting to contribute as early as possible can be one of the most effective contributors to a successful retirement strategy due to the power of compounding over time. If an investor earns money on his or her investments, then that money is invested and also starts earning money. Over time, compounding on reinvested earnings can have a significant impact. For example, if an investor invested 5% annually over a period of 20 years, $1,000 will grow to $2,650. However, if funds were invested earlier and remained invested longer, such as 40 years, at that same 5% return, $1,000 would grow to more than $7,000. In this example, the assets were invested twice as long, but grew to more than twice what they would have for a 20 year period. The additional money one could obtain depends on the rate of return earned lower returns mean less additional returns, while higher returns have an even greater impact. The second part of this tenet is to take the free money. This refers primarily to company 401(k) retirement plans in which an employer may match a portion of employee contributions. This can add up over time. If an employee contributed $6,000 a year and the company matched half, that would equal total company plan continued on page 3
3 PNC Investment Perspective continued from page 2 Growth of 401(k) at $6,000-per-year Contribution with 50% Employer Match Over 40 Years at Various Assumed Rates of Return Millions of Dollars 2.0 1.8 1.6 1.4 1.2 1.0 0.8 0.6 0.4 0.2 7% 5% 3% 0 5 10 15 20 25 30 35 40 Years Since Initial Investment The Danger of Chasing Fads It can be tempting to succumb to the allure of new products, theories and advice that purport to deliver strong returns, protection of capital or even a combination of the two. This can be particularly true in times of changing or volatile market conditions, as individuals reassess their portfolios and risk tolerance. It is important to do one s homework, looking carefully at the fundamentals. When we evaluate new products, we focus on value, risk and how easily understandable the tactic is. Valuation will give investors an idea of growth expectations built into the investment and future potential returns, providing insight regarding whether this investment Source: PNC Another important element of retirement contributions of $9,000 annually. Over a 40 year period at a 5% return, this would result in a balance at retirement of over $1.0MM. Without the $3,000 employer match over that period, the employee would have less than $600,000 at the end of the 40 year period, substantially less than with the match. The results will vary depending on the amount of employer match and the rate of return. Determining One s Individual Strategy Another important element of investing for retirement is to invest with the goal in mind. An investor s long-term strategic asset allocation needs should be a driving factor in determining an appropriate asset allocation. One item that individuals should keep in mind is that the opportunity to invest for retirement may be much longer than they realize. The total working life through one s lifetime can be 60 years or more. Once an investor retires, significant inflows into the portfolio are not likely to continue. This may result in less ability and risk appetite to endure large declines in portfolio value, necessitating a significant shift at that time in asset allocation. We believe that an appropriate asset allocation should generate potentially sufficient returns for an investor to reach his or her long-term goals. In addition, one s asset allocation must reflect the risk level which one can tolerate, both monetarily and psychologically, possible declines in portfolio value, both in nominal terms and real dollar terms, which takes into account inflation. investing for retirement is to invest with the goal in mind. is likely to meet their needs. Looking at valuation helps investors assess whether this is more risk than they are willing to undertake versus potential returns, or even if the return and risk expectations seem unrealistic. Finally, if the investment appears too complicated or one cannot understand how the investment generates returns, one may want to rethink investing in it. We caution investors not to follow the herd or worry about being left out of a good thing. continued on page 4
4 PNC Investment Perspective continued from page 3 Historical Returns and Range of Returns by Asset Allocation Profile (Percentage Annual Returns, 1926-2012) Highest 10-Yr. Rolling Highest 1-Yr. Aggressive -43.3% -35.6% -29.6% -23.4% -1.4% -6.9% 9.8% Growth 17.2% Balanced Moderate 9.3% 0.4% 8.7% 1.6% 8.1% 2.8% 20.1% 16.3% 15.7% Conservative 15.0% 26.7% 7.4% 3.8% -17.1% Preservation Geometric Mean Lowest 10-Yr. Rolling 11.3% 17.7% 5.3% 1.9% 29.2% 37.0% Lowest 1-Yr. 44.5% 54.0% -60% -40% -20% 0% 20% 40% 60% Source: Ibbotson Associates, PNC On the other hand, we believe that investors should be attuned and adjust to long-term changes in market conditions. For example, in the ongoing low interest rate environment in the U.S., loss of purchasing power for those invested in fixed income has been one of our main concerns for investors. Therefore, we have regularly discussed the need to evaluate one s asset allocation in terms of ability to retain and grow purchasing power. For some this has meant a larger allocation to equities or incorporating additional fixed-income strategies, such as global bonds, adjustable-rate securities among other strategies in order to diversify credit exposure and help reduce interest-rate risk. Stay Disciplined and Monitor Progress Noise in the marketplace may test the resolve of investors, and we believe that investors should try not to react out of fear, but rather should focus on what they can control, which is staying disciplined in their strategy. Starting early and consistently investing is key. At times, it may be tempting to stop contributing or feel that it is an insurmountable challenge, but as we discussed earlier, even a small amount invested regularly over time can accumulate to significant assets. Once an investor has developed a strategy, it is critical not to allow the market to drive one s actions. At the same time, one s strategy should be dynamic and assessing one s situation should be an ongoing and iterative process. Regular review of an investor s situation and current strategy can help uncover important continued on page 5
5 PNC Investment Perspective continued from page 4 Portfolio Values Dollars 550 500 With Annual Rebalance 450 No Annual Rebalance 400 350 300 250 200 150 100 50 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 Years Since Initial Investment Source: Bloomberg L.P., PNC information that will influence his or her asset allocation. There may be changes to one s personal or household situation that will drive a shift in asset allocation strategy. Market movements may also indicate a need for adjustment. We recommend that investors set a target asset allocation consistent with their retirement goals and rebalance back to the target periodically, either annually or if allocations deviate by 10% or more from the target. This helps investors to systematically buy low and sell high. It also helps to keep an investor s targeted risk level consistent with his or her defined goal. Finally, it has been shown that periodic rebalancing can help improve absolute and risk-adjusted returns, as illustrated in our example of a target allocation of 65% stocks and 35% bonds from the end of 1994 through November 2013.
6 PNC Investment Perspective For more information, please contact your Investment Advisor or Relationship Manager. The material presented in this newsletter is of a general nature and does not constitute the provision by PNC of investment, legal, tax or accounting advice to any person, or a recommendation to buy or sell any security or adopt any investment strategy. Opinions expressed herein are subject to change without notice. The information was obtained from sources deemed reliable. Such information is not guaranteed as to its accuracy. You should seek the advice of an investment professional to tailor a financial plan to your particular needs. For more information, please contact PNC at 1-888-762-6226. The PNC Financial Services Group, Inc. ( PNC ) provides investment and wealth management, fiduciary services, FDIC-insured banking products and services and lending of funds through its subsidiary, PNC Bank, National Association, which is a Member FDIC, and provides certain fiduciary and agency services through PNC Delaware Trust Company. This report is furnished for the use of PNC and its clients and does not constitute the provision of investment advice to any person. It is not prepared with respect to the specific investment objectives, financial situation or particular needs of any specific person. Use of this report is dependent upon the judgment and analysis applied by duly authorized investment personnel who consider a client s individual account circumstances. Persons reading this report should consult with their PNC account representative regarding the appropriateness of investing in any securities or adopting any investment strategies discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. The information contained in this report was obtained from sources deemed reliable. Such information is not guaranteed as to its accuracy, timeliness or completeness by PNC. The information contained in this report and the opinions expressed herein are subject to change without notice. Past performance is no guarantee of future results. Neither the information in this report nor any opinion expressed herein constitutes an offer to buy or sell, nor a recommendation to buy or sell, any security or financial instrument. Accounts managed by PNC and its affiliates may take positions from time to time in securities recommended and followed by PNC affiliates. PNC does not provide legal, tax or accounting advice. Securities are not bank deposits, nor are they backed or guaranteed by PNC or any of its affiliates, and are not issued by, insured by, guaranteed by, or obligations of the FDIC, or the Federal Reserve Board. Securities involve investment risks, including possible loss of principal. Investments: Not FDIC Insured. No Bank Guarantee. May Lose Value. 2014 The PNC Financial Services Group, Inc. All rights reserved. pnc.com