Over the last 10 years or so, there has been intense speculation about the size, scale and scope of the boomer retirement market. Speculate no more.
Beginning in 2010, the first group of boomers reached retirement age. It is now time to properly characterize this generation of Americans born between 1945 and 1964 so that advisors can truly appreciate the colossal nature of the task at hand.
In 2010, baby boomers could be divided into two age groups: those between 55 and 64 and those age 45 to 54. For distinction, we'll classify the first group, born between 1945 and 1954, as "old boomers" and the latter as "young boomers."
The Size Of The Current Pre-Retiree Market
Let's start with the composition and size of the age bands over time. Figure 1 illustrates the makeup and size of the boomer market, highlighted in light green.
There are some immediate and striking observations. Between 1985 and 2010, all age groups increased in size as the U.S. population went from 238 million to 302 million. Oddly, the only group to defy this trend has been the 65-74 group, which has remained about the same size. Also striking is the change in household sizes. Today's boomers have significantly fewer dependents living at home than the pre-retirees of 25 years ago. However, since the 2008 financial crisis, this trend has slightly reversed, probably reflecting the large number of young unemployed who have moved back in with their parents to save rent money.
In 2010, there were about 42 million Americans aged 65 and older. As boomers retire, this market will swell to about 110 million by 2030, nearly tripling in size. Furthermore, the current pre-retirement market is about 65% bigger than what it was 20 years ago. Unfortunately, this group is woefully underprepared for retirement, more than any group before them if we compare their retirement savings to their current expenditures.
The Boomer Doomer
For retirement savings data, we turn to Employee Benefits Research Institute (EBRI) reports. For 2010, EBRI data shows that people over 60 employed for 30 or more years had about $200,000 in their 401(k) accounts, while people in their 50s are poised to retire with similar account balances. Even if we didn't take living costs into account, it is obvious that these amounts are inadequate, even for two-income families. Moreover, the time required to undo such gross errors is running out.
To understand how we got here, we must look into the lifestyles of boomers and the amounts they are spending today to finance their lifestyles. Figure 2, again using BLS data, shows the income of boomers and how it is accounted for using standard GDP guidelines.
In 1990, young boomers were earning about $31,000, consuming nearly 80% of that, saving 10% (including retirement contributions) and paying another 10% in taxes. By 2010, these same young boomers demonstrated nearly the same consumption pattern as before, while their personal savings were up at 15%, and personal taxes were down to only 5% of their total income. It is interesting to see that this group of young boomers maintained their living standards (consumption-to-income ratios) throughout the years. Even the 2008 crisis did not change their basic saving/spending behavior.
Similarly, in 1990, old boomers were consuming about 77% of their income, saving 11.5% and paying 11.5% in taxes. By 2010, this group had actually increased their consumption to 80%, while their savings were at 15.5% and their taxes at 4.5%. Increasing proportional consumption over savings during very, very financially troubled times is very curious behavior indeed. Obviously, this group of old boomers is totally clueless about what lies ahead after retirement. They seem to have little or no understanding about the funds required to maintain their lifestyles in retirement. Furthermore, the proportion of taxes paid by young boomers were halved between 1990 and 2010 while old boomers' taxes went from 11.5% of income to just over 4%. This tax trend was not limited to boomers. Across the nation, taxes fell from an average of 9.4% to just 4% between 1990 and 2010.
It is heartening to note such a reduction-which champions the market economy. (It also shows clearly the distinction between marginal and average tax rates for laypeople, which might help a presidential hopeful like Mitt Romney explain the major tax contribution of a 15% tax rate.) But from an advisor's standpoint, this is disconcerting news.
Even two-income families are woefully unready. Consider the current realities for income securities: The risk-free benchmark rate for 10-year Treasurys is hovering around 2% while the 30-year benchmark is around 3%. Under these conditions, if we assume boomers cannot afford to take speculative risks with their retirement funds, a return of 3% on $400,000 would give back about $12,000 in risk-free earnings. Compare this to the $39,000 boomers would actually need to maintain their lifestyles in retirement (with an 80% replacement ratio of their current income) and the problem becomes crystal clear. A risk-free retirement portfolio would only be covering about 30% of their lifestyle needs! Could people really pare down their expenses by 70%? How much worse would it be if we explored single-income families?
It's infeasible to solve the problem by seeking a higher rate of return from our investments. Large-cap stocks are currently expected to return about 7% to 8%. Even this high rate leaves an income shortfall of about 20%, and meanwhile, investors in these securities face greater risk. Given that the S&P 500's volatility is about 30% higher than it was in the decade before 2008, a family of two with just $400,000 in savings cannot afford to take any chances. In fact, under these conditions, average boomers should conserve and stretch this meager principal as best they can.