Read this post in 6 minutes
“There’s nothing more empowering than understanding investments and knowing how to work with your money smartly”. These are the words from Jeanette Marais, the Director of Allan Gray, one of the biggest investment management firms in the southern hemisphere.
Jeannette fell in love with investing when she realized how much confidence and freedom that having financial independence can give one. We decided to pick her investment brain to answer some of the most prominent questions that millennials have with regards to money.
We all know that we should start investing early. Why do people not start investing as early as they should?
I think the problem is that most people don’t understand how investments work. And actually, it can be summed up in two words: compound interest.
This simple yet powerful phenomenon allows you to earn interest on interest.
Meaning that eventually, you can earn money off money you never even had in the first place. It causes your money to grow exponentially. Many studies have been done, but the bottom line is this:
if you wait ten years before you start saving, you don’t miss out on the first ten years’ contributions, but rather on the last ten years’ compound growth – which can cut your end balance almost in half.
The best time to start investing was 10 years ago. The second best time, is now.
What is a typical investment plan/strategy that the average millennial should consider to retire comfortably?
Start as soon as you can, contribute as much as you can, and don’t dip into the cookie jar!
If you start saving 15% of your salary at the age of 25 and keep doing so until the age of 65, investing in a fund that will give you at least 5% return after inflation (i.e. real return), you should be able to reach this goal.
However, salary increases that exceed inflation may increase your standard of living and therefore also your cost of living. You can think of this as lifestyle inflation, which is the increase in your standard of living over time.
When investing for retirement, it is important to plan for future increases in prices (i.e. price inflation) and future increases in your standard of living (i.e. lifestyle inflation).
If you did not account for your new lifestyle when calculating how much to save in previous years, your increase may have a dramatic impact on how long your existing retirement savings are expected to last and what you need to save moving forward.
Each dollar that you spend on a better lifestyle is a dollar you will get used to spending, and thus need to fund from your retirement income when you stop working. By prudently allowing for future increases in your standard of living, looking in the rear view mirror at each increase and matching your return requirements and risk appetite with an appropriate asset allocation, you are more likely to achieve your retirement goals.
Below is a table that you can use as a “rule of thumb” of how much you should have saved after working for x years to make sure you’re on track:
|After working for||Saved a capital sum of|
|10 years||2 x your annual salary|
|20 years||5 x your annual salary|
|30 years||10 x your annual salary|
|40 years||17 x your annual salary|
Let’s talk risk and certainty. How can I be absolutely sure that my investment plan will ensure that I have enough come retirement given the riskiness of the market?
It is very common to worry about the riskiness of the market. This is a valid concern if you have a short time horizon. Share prices move up and down daily, but these movements are often based on the news and events of the day, rather than changes in the true value of the company. These up and down movements tend to smooth out over time, so if you don’t need to access your money, the day-to-day losses are only on paper. We believe there are two bigger risks:
- The risk of capital loss as a result of paying too much for a share. The price you pay is the most powerful determinant of both future risk and return and it is the one factor you can control at the outset.
- The risk of your investment not keeping up with inflation. Time can erode the value of your money, leaving you able to buy less with the same amount of money. The returns on your investment should be at least enough to compensate you for the length of time that you invest so that the value of your money is maintained. Remember to bear this in mind.
Many millennials do not consider retirement since it seems like it is centuries away. How much of one’s income do you recommend one should invest towards short and mid-term goal such as buying a new car, vacations and buying a house? And what percentage should one invest towards a long term goal such as retirement?
Everyone has different goals and objectives and it is difficult to pin an exact number on how much you should invest for short, medium and long-term goals. A common mistake is to put off your long-term goals because they are far into the future, in the belief that you will make up for lost time.
But, as discussed, putting off your long-term savings means sacrificing on compound interest.
I believe that the best gift you can give to yourself is to pay your future self first in the form of contributing at least 15% of your salary to your retirement savings.
Then look at what is left and allocate to your short and medium term goals. Of course you cannot allocate to your goals without starting with a plan that clearly articulates what you are trying to achieve.
Having goals also helps us to stick to our good intentions when times get tough.
It is important to remember that throughout your life, you should be thinking about you retirement so that it doesn’t catch you by surprise.
In your opinion, how can millennials protect themselves against complete loss when the market is down?
Switching is the biggest destroyer of capital – especially if you have an aggressive portfolio.
The best thing you can do in down time is to ride through it.
If you dis-invest when markets are low, you lock in that loss permanently. If you stay invested and push through the scary times, you can make up the loss by (usually) subsequent out-performance.
Studies have shown that millennials are generally risk averse, opting to invest in cash investments such as money market accounts. Do you think this is a good thing? Why/why not?
The greatest benefit millennials have is time on their side! Time smooths out the volatility that riskier assets bring and allows you to earn returns that beat inflation, which is your greatest enemy.
Lastly, what is the best advice on money that you’ve ever received and who was it from?
My dad, who had a simple money philosophy of living within your means and not on debt. If you spend more than you earn each month, you need to cut back.
Save until you can afford something instead of borrowing money to buy it now. Often you’ll find by the time you’ve saved enough, you don’t really need that item anymore.