How to Estimate the Future Rate of Return on Your Retirement Savings

Seriously important question. Many pre-retirees can do enough of an estimate of what their expenses will be once they leave the office. But our earnings predictions largely depend on how our investments will perform. And here, most of us make a blank. After all, it’s hard enough to predict what the market will do in the short term, never mind a 30-year retirement.

So, let me suggest three ways to estimate the future rate of return: two easy ways—and one better way.

An easier way is to use historical returns. The good news: We have almost 100 years of data to work with. And these figures tell us that stocks give an average annual return of about 10% and intermediate-term bonds give returns of about 5%.

Even better, we can, and should, adjust these figures for inflation, and calculate the “real” rate of return, a more accurate measure of how the value of an investment is rising or falling. Given that inflation averages around 3% annually. In the early 1900s, the real rate of return on stocks and bonds is closer to 7% and 2%, respectively.

Bad news: This method is a little too easy. For example, the average return that stocks have given us over the past dozen years doesn’t account for this; As such, many economists expect diminishing returns from stocks in the coming years.

So, speaking of economists… Another way to estimate returns is to look at what experts are predicting. Every year, several major financial firms—BlackRock, JPMorgan and Vanguard, among others—predict long-term returns for different asset classes. You can simply use their numbers in your retirement calculator.

(Note: Researcher Christine Benz, director of personal finance at Morningstar Inc., and one of our favorite authors about retirement planning, thoughtfully compiles many of these forecasts into one article each year. Her most recent survey was in January. Posted. Registration may be required.)

Vanguard currently forecasts that annual returns for U.S. equities will average between 2.4% and 4.4% over the next decade, and returns for bonds will average 1.4% to 2.4%.

Be careful here: Some firms project returns for the next decade; Others will look 20 or 30 years into the future. BlackRock, for example, in its latest projections, expects large-cap stocks to return about 7% annually and bonds about 2.4% over the next 20 years.

Ultimately, a better way to predict returns is to sit down with a financial advisor, who can, ideally, dig into the subject and your particular nest egg. Among the issues you and your advisor should deal with are:

What are the potential returns for the different asset classes in your portfolio (eg, for small-cap stocks or international bonds)? Are returns calculated with dividends, or without? Will your advisor’s calculations be based on future average annual return or compound return?

And what does the best and worst case look like? For example, from 2000 to 2010, the S&P 500 returned an average of less than 1% per year. Yes, it is a relatively short time period. But who can say that we will not get diminishing returns for many decades.

I realize you’re just looking for a number to plug into the calculator. And that’s fine. But please recognize that forecasting business, as done by experts, is not accurate, at best. Not to mention overly complicated. (If you prefer, you can explore concepts like the Gordon equation or CAPE, economist Robert Schiller’s cyclically adjusted price-to-earnings ratio.)

Point: I hope that at some point, you, and a competent advisor, will be able to address your particular question that deserves its attention.

How long do I have to work to get the most out of Social Security after retirement?

As is often the case with Social Security, there is more than one way to look at the issue.

Your benefit will be based on your highest 35 years of income that is covered by the Social Security program. (And, if you’re interested, each year’s pay is indexed for inflation.) So if you work for at least 35 years—and if, in each of those years, you pay under Social Security If you earn or exceed the maximum amount of taxation- you will get the top benefit.

In detail: Anyone retiring this year at the age of 66 and two months full-retirement and meeting the requirements outlined above will receive an initial monthly benefit of $3,148. And, in 2021, the maximum taxable income is $142,800.

This is the first answer to this question. There is another answer as well.

If you delay claiming Social Security until age 70, you earn a “Delayed Retirement Credit,” which increases the benefit you eventually receive by 8% per year. In 2021, a person who claims Social Security for the first time at age 70—and, again, those who meet the requirements discussed above—will receive $3,895 per month, the maximum benefit.

Mr. Rafenach is a former reporter and editor for The Wall Street Journal. Ask Encore looks at financial issues for those who are thinking, planning and living their retirement.