Work longer and retire better

Why work longer? Because a few extra years of work will boost your retirement income more than higher investment returns will, once you take the risk into account.

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A short while ago in this space, I criticized the Fed’s efforts to depress long-term interest rates, and urged the Bank of Canada and the federal government to avoid doing the same in Canada. No matter how persuasive I was, savers face a few rough years, and even the boomers still some years from retiring may see mediocre returns until they do.

If you, like me, hold lots of dull, low-yielding assets, you’re probably tempted to flip the page. This magazine has lots of advice about boosting returns—getting some “alpha” from your assets—so you can retire richer. But the simpler, safer route to a secure retirement is this: work a few years longer.

I sense some pages turning. If you’re still with me, though, here are two thoughts to start.

First, consider what many of the readers who flipped ahead are thinking: “The smart money—the pension funds—are into real estate, infrastructure, and private equity. They see alpha there. So I should get some too.” Trouble is, those readers will be bidding against people who are buying that stuff not just because they’re smart, but because they have to.

Most pension fund managers do not control their liabilities. Plan sponsors do that. The sponsor makes promises that cost, say, 5% after inflation, then tells the asset manager: “Earn that!” So the manager buys riskier assets, hoping for the required return. That doesn’t necessarily end happily. Certainly not for the many pension plans whose risky plays have already landed them in deep holes. And especially not for the retail investor who gets only what the big players leave behind.

Second, alpha is seductive. Why work, when my money can work for me? True—if a timely payoff were guaranteed. But risk is risk. Over a three-year time horizon, a eurozone meltdown, for example, could devastate your savings. At least a lottery ticket limits your downside.

The math is compelling: a few extra years of work can boost your retirement income far more when you take risk into account. Consider one of those hypothetical readers who flipped ahead. He’s 52, earns $100,000 annually, has $400,000 in savings, and will save $20,000 a year until retirement. He expects low-risk returns in line with economic growth, say about 2% after inflation. (We’ll ignore taxes and government retirement benefits to keep things simple.) If he retires at 62, his nest egg will pay out $42,000 a year until he’s 82. But if he works until age 65—just three more years of saving—then his nest egg will provide a much larger annual income of $56,000.

Could he get that increase by getting a higher investment return instead? Yes—if he could get his return up to 3.5% after inflation, year-in year-out. Maybe the smart-money pension plans can get that. And plenty of promoters promise it. But risk is risk. Undershoot the 2% low-risk return by the same margin, and if he wants to get that $56,000 annual payout, he’ll have to work until he’s 69.

Here in the real world, the message that working longer pays off is getting through. Over the decade ending in 2011, the average retirement age for private-sector workers rose by nearly two years. Even governments, whose pension-plan payouts are far outpacing contributions, are starting to get their workers to stay on the job longer. Take into account the delay in Old Age Security, and the fact that the Canada and Quebec pension plans will pay more to people who put off receiving their benefits, and later retirement becomes even more attractive.

The guy who flipped ahead has other thoughts. By now, he might be trolling the investment forums looking for hot tips, ready to challenge the sharpest operators in the financial world. It’s too late to tell him that working longer can deliver higher retirement income far more reliably than riskier investing. (And perhaps note that people who work longer often live longer too.)

Those messages are for those of us still on this page. And don’t worry that the guy who flipped ahead might chill out ahead of you. His risky quest for alpha will keep him tense, and likely keep him working, years after you’ve cashed out.

William Robson is president and CEO of the C. D. Howe Institute