During times like these, financial advisors often need to remind clients that bear markets are a normal, cyclical part of investing-and that the last thing you want to do is panic. And for clients in, or near retirement, it seems that advisors can't stress this point enough lately.
Yet who can blame retirees or near retirees for being jittery?
While it is true that bear markets are a normal part of the business cycle, it is also true that people's retirement funds are tied more closely to the equity market than ever before. Since the last bear market, the growth of employee- managed retirement plans has exploded, while the number of paternalistic corporate pension plans has shrunk.
Through the 1990s, people became accustomed not only to seeing their retirement accounts grow every year, but also to seeing them grow robustly, by 20% or 30% or more.
The boom times, in the minds of many, were taken as "normal" times. Inflated returns were projected into the future. Plans were forged for early retirement. It was an explosion of wealth.
Then reality hit. First with the down market of 2000. Then again in 2001. The collapse of Enron served as yet
another jolt to the retirement crowd. The talk among advisors and clients is no longer about growth and spending plans and early retirements. Now the talk centers on protecting assets, soothing nerves and maybe even working a little longer.
"My basic advice for people is, if you're close to retirement and not 100% comfortable, then wait a year or two," says Clare Hushbeck, a labor economist with the American Association of Retired Persons (AARP).
And in light of the excesses of the 1990s, she says, that may not be such a bad thing. "I hate to say it's been a good thing, but the bear market and Enron together have been a wake-up call to people," she says.
Indeed, many financial advisors would agree that, even though the bear market has upset the retirement plans of many, everyone is better off with a dose of reality in the long run.
For one thing, the bear market has taught people that it is possible to lose lots of money in a qualified retirement account. People learned that in 2000 and 2001 when, for the first time in history, 401(k) assets shrank. In 2000, about $72 billion alone was lost, and the average participant's balance declined by nearly $5,000.
As advisor Daniel Moisand sees it, the problem with retirement planning in the 1990s wasn't so much the unrealistic expectations about growth as it was the total disregard for the inherent risks of equities. "I think it's more unrealistic expectations about the extent of possible losses," says Moisand, of Optimum Financial Group in Melbourne, Fla. "They really didn't believe there was that much of a possibility of losing their shirt."
People continue to be overconfident in some areas, he says. Despite Enron, he still encounters people who insist on overweighting investments in their own companies. "All this talk about Enron and loading up-it's not sinking in," Moisand says. "People think their company is different."
Advisors say that for clients who followed their advice and stuck with diversified portfolios that got more conservative as they approached retirement, the bear market hasn't had a dramatic impact. In these cases, market losses typically have been held in check, and retirement schedules haven't been upset.
The people most affected by the market have been those who overinvested in a sector or a particular company, projected overoptimistic annual returns and, in some cases, used their flawed plans as the basis for retiring early. In many cases, these are the people advisors are seeing walk into their offices after the fact with retirement plans they drew up themselves without professional help.
Many of these people are having to go back to work or curtail some of the luxuries they planned for their retirements, advisors say. Michael Helffrich, owner of PFP Advisors Inc. in Minneapolis, cited the example of a 55-year-old single female who came to him in 2001. The woman was ready to retire, with a $750,000 retirement account that was invested in about eight blue-chip stocks, including General Electric and a handful of pharmaceutical companies. Over the previous year and a half, her account had shrunk from a high of $825,000.
Although she was not in a "horrible" position and finally did decide to retire early, her plan did have its flaws. A lack of diversification was one problem, coupled with the fact that a total reallocation of the portfolio would have resulted in a massive $85,000 capital-gains hit.
The painful reality for this woman was that she had to indefinitely put off plans to buy a $200,000 condo in which she planned to spend her retirement, Helffrich says. Her account, plus Social Security and a pension, will just barely allow her to sustain the $40,000 in annual income she projects she'll need. "If things don't start recovering by the end of the year, I've told her she may have to go back to work part time in order not to sell her depressed assets right now," Helffrich says.
People who retired with a rosy outlook on the stock market just before it tumbled in 2000, are among those having the most problems, says Timothy Wyman, an advisor with the Center for Financial Planning in Southfield, Mich. He cited the example of a new 63-year-old client who retired from Ford Motor Co. as a midlevel executive two years earlier. He retired with a net worth of $3 million. By the time he walked into Wyman's office last year, his worth was down to $2.2 million, with most of the reduction due to market losses.
"He was thinking of retiring and doing some traveling with his wife," Wyman says. "Now he's fearful of traveling because he doesn't want to spend money. He retired, but he's not doing the things he thought he was going to do."
One problem was that the client was 100% invested in stocks upon retirement, with 20% in Ford shares. Although the portfolio was slightly overweighted in Ford, Wyman says the real problem was the lack of any fixed-income allocations. Instead, he had everything invested in a diversified mix of mostly large caps.
"But in his mind, and he's coming off the late 1990s, he thought it was a very conservative portfolio," Wyman says. "He didn't think he was taking undue risk."
Then there is the case of a married couple-both retired teachers-who saw their nonqualified retirement account go from $100,000 to $450,000, leading up to their retirement two years ago. Then, a year and a half into their retirement, they saw the account go from $450,000 to $200,000. "They're bitter," says Wyman, who first met with the couple after the damage was done last year.
Once again, lack of diversification was an underlying problem, he says. The couple's portfolio was, and still is, heavily tied up in technology. Among the holdings are Lucent and several former Baby Bell telephone companies.
Even as the stocks steadily slid in the latter half of 2000 and all of 2001, they held onto them to avoid the huge capital-gains hit. The losses weren't devastating because their combined pensions provide them with $70,000 a year in income. That takes care of living expenses. But it has impacted the life they expected to lead in retirement.
They went into retirement with homes in Michigan, Colorado and Florida. They have since sold the home in Florida and haven't traveled to the one in Colorado for 18 months to avoid travel expenses.
Wyman is urging the couple to gradually liquidate the portfolio, maybe at a rate of 20% a year to lessen the capital-gains impact. But they're still resistant to the idea.
"It's foolish to let the tax situation drive the investment decision," he says. "But it can be hard. And you always have certain people who think things will come back."
A couple of months ago, a 67-year-old retiree walked into Moisand's office with a problem: His nest egg had gone from $850,000 to $650,000, throwing his whole retirement plan into disarray. After retiring in 1999, the man had put his money into a separate-account program run by a brokerage firm. The account was heavily invested in large-cap stocks, with a straightline projection of 11% annual growth.
"The problem was he had no clue as to what the downside risk might have been in taking that step," Moisand says. "Nor did the broker discuss it with him. He's paying the price for it."
As of now, the man and his wife are curtailing travel plans. Even still, the couple are going to have a tough time funding an extended retirement with the level of income they're used to. "I think that if they remain healthy, they will continue to have a problem-if he doesn't work," Moisand says.
Elaine Bedel, of Bedel Financial Consulting in Indianapolis, offers her own "horror story." It concerns a new client who worked out plans with an advisor a year and a half ago to take 72t distributions (an IRS regulation that permits people with special circumstances to withdraw funds from IRAs before age 591/2) from a $1 million IRA before retirement.
The strategy assumed a long-term annualized return of 12%, which of course caused the plan to crash in 2000 and 2001, she says. The client, who was 49 when he started with the plan, will probably have to put off his plans for retiring at 55. "The market turned, the value went down, and if he continues to take distributions, he will be used up in five to six years," Bedel says.
Despite cases such as these, advisors maintained that most of their clients' retirement plans are on course, despite the bear market. In some cases, advisors say they've prepared their clients for the downtimes by securing the first three to five years of a client's retirement in fixed-income accounts, including CDs and short-term bonds.
"The point is, when clients retire, they know they have five or six years of income locked up," says Stanley Ehrlich, of S.F. Ehrlich Associates in Clinton, N.J. "That way, short-term market gyrations don't trouble them."
Constantly trying to instill a long-term perspective is another important ingredient, advisors say. "I will tell you that my retirees are concerned but not terribly worried because of the way we prepared them," says Michael Kresh of M.D. Kresh Financial Services Inc. in Hauppauge, N.Y.
That's why Dennis Houlihan, managing director of Houlihan Asset Management in Fort Wayne, Ind., is counseling his retirement planning clients to look for opportunities rather than hunker down.
He's even including growth funds in his clients' portfolios, such as Janus Olympus, Janus Growth & Income and Dreyfus Appreciation. "Studies show the biggest mistake investors make are knee-jerk reactions with mutual funds, where they sell them at the bottom and buy them at the top," he says.
A recent survey also indicates people aren't as worried as might be expected. About 70% of workers say they're confident about having enough money to live comfortably in their retirement years, according to the 12th annual Retirement Confidence Survey.
The survey also found that 37% of workers ages 20 to 39 intend to retire at age 61 or earlier. But it remains to be seen how easy that will be. Hushbeck of the AARP says that anecdotal evidence indicates that people are indeed starting to put off their retirements, after a long trend that saw people retiring earlier and earlier.
"We do see a slight upward tick in the typical age of retirement," she says. The change is slight, she adds, moving from an average of about 62 to 62 1/2. But that's significant considering the average age has been on the decline since the end of World War II.
Whether it's a blip or the start of a new trend remains to be seen. But there are several reasons to think the trend could continue, Hushbeck says. Among them are numerous studies that indicated baby boomers are not saving enough money for retirement. Decreasing mortality rates are another factor, as are increased living standards. "I think we've bottomed out on the lower retirement age," she says.
Another issue going forward even has financial planners in a pickle: What kind of rate of return do you assume for planning purposes? If you go by what some experts are saying, the days of assuming returns in the low teens are long gone. Some say advisors should assume no more than 6% going forward to be safe.
Advisors, meanwhile, vary in how they treat the issue. Some feel you should be as conservative as possible going forward. To prove it, they cite the case of people who retired in 2000 with an assumed return of 12% on their investments-an assumption that was considered quite reasonable at the time. Others feel market forecasters are being too pessimistic, almost to compensate for the overoptimism of the 1990s.
Diane Pearson, director of financial planning with Legend Financial Advisors in Pittsburgh, says her firm uses 8% as the high end when doing retirement projections. "Now I've been thinking of maybe that being too high," she says. "Ideally, we want to paint the worst possible scenario."
An advisor who doesn't buy into the dour forecasts is Scott Kays of Kays Financial Advisory Corp. in Atlanta. He thinks the historical basis for using a 10% or 11% projection is sound, and that despite the bear market, gains in productivity stand to boost the economy going forward.
"What people have to understand is this is not unusual," he says. "This is a textbook example of a bear market."