The Three-Legged Stool of Retirement

The other day in a magazine, I saw a section that was talking about how $1,000,000 is now sort of like a new minimum to have for retirement purposes, at least among the American population that wants to retire with middle or upper class incomes.

Now, this is a little silly in some ways but it does make some sense. I see how, in an era where every investor and their mother is complaining about low interest rates* a relatively large amount of assets would be required to pump out sufficient investment income to live off of. Also, a million dollars is not what it once was –a millionaire in the 60’s is akin to a multi-millionaire or decamillionaire today. Inflation is the ever present invisible tax that steals our purchasing power over the decades.

It’s become apparent that today in America the traditional “three legged stool” of retirement planning has gone out the window. This model basically states that in retirement, workers rely on three sources of income to sustain themselves: a pension from their job, social security checks, and their own savings.

It’s no secret that pensions are almost extinct these days. Social security is..well…it’s heading in that direction. And personal savings? Yeah – don’t count on that either. As I mentioned in Tuesday’s post, the vast majority of Americans have had savings rates around 5% or worse for the last few decades. This leaves no legs to stand on for many people. A lot of folks that retire unfortunately have to rely exclusively on their social security checks for income, and maybe have a part time job on the side to help augment that if they can still work.

Back to the million dollars – if you can honestly live a frugal lifestyle and be very efficient with your spending (like Jacob Lund Fisker or Mr. Money Mustache), than a million dollars is way too much money. If you can live off of $25,000 per year, you only need to pile up $625,000 in a portfolio yielding 4% for you to generate that investment income.

$25,000 is really not that unfeasible for a small family with no debt whatsoever who lives in a medium to low cost of living area. As a recent college grad, I can testify that this is possible. It’s just that most people aren’t willing to live off of that amount of money. Heck, I’m not willing to live off that amount of money.

I’ll be straight here – I want to be wealthy. For some people $25,000 can buy everything they want and need. I know I’d rather prefer more luxurious things, so guess what – I’m going to have to save more than $1,000,000 by retirement age, especially after inflation takes it’s bite.

Because pensions are almost non-existent and the elimination of social security benefits isn’t far behind, it falls on the individual to determine their financial fate over the course of their life. The game has changed – it’s now a one legged stool and it’s all on us.

I am seriously worried about the cultural changes that have taken place over the generations with regards to how we view managing our financial affairs. People who lived through the Great Depression learned the value of thrift and how to make the most of what they had. People who grew up in the post-World War II era worked hard to fuel the economic boom that occurred in our country at the time.

Now, it seems like the advertised goal in life is to seek immediate satisfaction and convenience. I’m worried that about the people my age who haven’t yet thought about the three stools of retirement – they’re too busy living life for today.

If the baby boomer generation is having trouble retiring and they actually had pensions, social security, and a little bit of savings to count on, how will my generation pay for retirement with much easier access to credit, no pensions, a failing social security system and poor saving habits?

Only time will tell, but if we continue to do what we do as a nation financially, I can’t help but see another type of retirement crisis on the horizon three or four decades from now unless something changes among the habits of America’s youth.

*or jumping for joy if you’re a real estate investor

Willingness to Act

Source: Thinkstock

Source: Thinkstock

Sometimes, you have to just do it. Based on some events in my life recently, I was thinking about the disconnect that often happens between knowledge and behavior. Many a time, we know we ought to do something, but for some reason, fail to do it consistently.

Thinking about this topic took me back to Habit, by Charles Duhigg, where the habit-breaking and habit-forming process is described as a cycle that replaces one thing with another. Instead of our brains being triggered by one thing to perform a certain action, we have to trigger it a different way in order to do something else. For example, the spot I am writing at right now is the place that I have consistently wrote at for some time now. Whether I’m thinking about it consciously or not, subconsciously I associated this particular spot at this particular time of day with writing blog posts and doing research.

If I were to change the environment – say I was on a beach somewhere – I could consciously perform the task of writing but it would not come as naturally. We all get into our own set of habits, and changing them many times is no small task.

In the realm of personal finance this applies as well. The rise of the study of behavioral finance has made it scientifically clear that people do not make decisions with their money simply based on a rational framework. We’re emotional creatures and the way we often treat money is emotional.

Take your average person. From statistical information, we know that people generally have a terrible time saving money and have trouble accumulating it over long periods of time. We know this because the average savings rate in America has hovered around 5% or less in the past few decades, even dipping to a negative savings rate right before the great recession around 2006-2007. Your average person was borrowing a lot of money (usually for a new home), or at least not saving a lot of it.

To validate my second statement, there is no need to look further than the most recent Federal Reserve data on household net worth to realize that, for the average person under 35, the typical net worth is less than $10,000.

For many of those people who fall under that camp, they simply do not know the right things to do. Like me, they were never taught about money growing up and so simply start to emulate the behavior of their parents and peers as they grow into adulthood. For them the first step is simply being exposed to new knowledge in order to gain new understanding on the subject.

There is a portion of people however – and I do not know how big this portion is – that know the right things to do financially yet refuse to do them. If you asked them how to get out of debt, they could probably tell you the mechanics. If you asked them how to save for an emergency for start investing in a retirement account they could probably tell you how to do it. But a lot of them actually don’t do it.

It’s a sad thing, but to me it illuminates the oft-ignored disconnect between knowledge and action. It is one thing to know how to do something but it is entirely another to do it and set things in motion. It is even harder to make the actions a habit.

The good news is, however, that once good habits are set in motion, it becomes easier. I remember when Mrs. Mase and I first started budgeting. We had a negative net worth, were completely confused as to why there was no food in our fridge, and went back and forth trying to justify or discredit certain household expenses.

Over time though, we worked it out. We kept talking to each other. Gradually, the habit of working together started to form. The ability to set boundaries with our money started to build over time. Consistent action based on fundamental knowledge of how to do the right things carried us closer toward our goals.

It is just interesting reflecting on these things sometimes – it’s sort of like when you have bad vision and you put on a pair of glasses for the first time. You can’t imagine ever living without them once you put them on.

I’m looking forward to more of those ‘aha’ intellectual moments, and I’m sure they will come. In the meantime however, the more important thing for me to do is to keep pressing on in action with the knowledge that I already do have. Knowledge comes first, but it must always be followed by action.

Looking at Price to Book Value When Analyzing Stocks

Lately I have gradually been working my way through a great report called “What Has Worked In Investing”, by Tweedy, Browne Company LLC. You can download it for yourself here ( Tweedy, Browne is a famous investment firm that has a storied history of investing based on value-based principles. Heck, they were Benjamin Graham’s main broker back in the day.

Although the report can be a little dry at times, I do find the data quite interesting. Near the beginning of the report there is a discussion of returns based on price relative to the book value of the stock. It turns out that there is a proven statistical correlation between price to book ratios, at least historically, and returns over time.

For those unfamiliar, book value is essentially the net worth of the stock. This is not the same thing as intrinsic value – it is the value of all of the businesses actual assets (property, equipment, loan portfolios, etc.) minus all of its liabilities (debt, pension obligations, etc.). Book value is this number expressed in per-share terms, and then compared to the price of a share of the stock.

What the good folks at Tweedy, Browne found was that stocks bought with lower price/book ratios typically had returns far in excess of those that had higher ratios. Similar to the price/earnings ratio, this ratio helps indicate the relative expensiveness of a particular stock. Notice the operative word is relative…what may look like a cheap or expensive stock on the surface may actually not be. That’s a discussion for another day though.

Here’s a table showing stocks what the results would have been if you bought all of the stocks listed on the NYSE and American stock exchanges each year between 1970 and 1981 within different price/book deciles. There’s an additional category included for stocks trading at 66% or less of their book value.


Within a six month period there’s not much of a difference in stock price. After three years however, there is a noticeable difference, and average returns are way higher than for the S&P 500 as a whole. This data implies that over time, the market reflects a business’s true earnings power, but in the short term there are moments of complete irrationality when it comes to the stock price. This is in sync with one of Benjamin Graham’s famous quotes:

In the short run, the stock market is a voting machine, but in the long run it is a weighing machine.

The study goes further into examining the price/book relationship. Here’s a table with similar categories for stocks, using the same criteria, but adding the additional constraint of only including stocks that had a debt to equity ratio of 20% or less. This filters down to companies that are not only trading at close to or below their book values, but actually have most of their respective book values made up of equity and not weighed down by liabilities.

Sure, a company could have a book value of X and be trading close to or below X, but if X is mostly composed of debt and that debt is dependent on interest rates staying below a certain level or something similar…well it’s more easy for the firm to go belly up instead of growing and prospering.


The results are somewhat better across the board. Companies that are more un-leveraged and have lower price to book ratios tend to fare better over time. This result makes sense, because if a company has a lot of equity it can weather financial storms without the additional risk of a heavy debt burden.

I haven’t really gotten too deep into the report yet, but I thought these findings were interesting. A lot of other smart minds in the investing world have already done a lot of hard work analyzing what does and does not work, so as an amateur I’m super grateful for reports like this that are out there and available for free. I’m hoping that the more I study this stuff, the more knowledge I gain in the long run.