How I Began
We often hear how important it is to start saving for a pension and the earlier you do this the better. The magic of compounding means that the longer your timeline for investing the better the results you can achieve. For example if you had £10,000 to invest and managed to achieve a growth rate of 7% a year then a 10 year time line would see your initial investment grow to £19,671. If you have 20 years to invest then that £10,000 would grow to £38,696, similarly 30 years would result in £76,122 and if you are very well organised (or willing to retire later) then 40 years would see that £10,000 grow to £149,744.
For those with long time horizons then these are encouraging numbers providing you can achieve 7% which seems possible (I’ve actually averaged a return of 8%). Some people claim they can make 12% to 20% a year returns (they are usually selling something) and that’s great if they can. 40 years at 20% a year growth would turn £10,000 into over £14.5m. For those people they clearly don’t need to be frugal with their money, for the rest of us it’s safer to save.
I also don’t trust the government to take care of me in my old age. Means testing of the state pension and raising of the retirement age means I prefer to take care of myself if I can. I guess I’m quite an independent person and hate the idea of handouts. Also I value my freedom. Currently the UK state pension can be drawn for pensioners living abroad. I’m guessing in the future to cut welfare costs the government will put a stop to this. I can’t afford and more importantly don’t want to live in the UK when I retire so saving for myself will give me this freedom to choose.
So back to how I began. I started saving in July 2006 on my 27th birthday. I had a total of £4,218 in assets with more than half of this in a pension fund from a previous job working in a bank. Back then it was generally agreed that aiming to save 15% of your income in a pension fund for 40 years would result in a pension income upon retirement that would match your salary. I wasn’t sure how true this actually was but it seemed a good starting point to aim for: saving at least 15% of your income each month into long term savings. I used the term long term savings as opposed to an actually pension fund as pension funds are often restrictive and fees can destroy much of the benefits of these. Having said that most people who work can get matching contributions from their employers so taking advantage of this is usually worth it.
The next thing to do was to estimate how much income I wanted at retirement. As I planned to live abroad I figured I could retire somewhere cheaper than the UK so I initially set the target at £200-a-week (in 2006 prices). To get an income of £200-a-week I figured I would need a pension fund worth about £200,000 at 2006 prices. This assumes an income (or draw-down whereby you sell assets) of 5% a year. Some would say 5% is a bit ambitious, if you think so then 4% draw-down could be used instead (in this case you would need a fund of £250,000 in 2006 prices).
So you need to save £200,000 then you can retire, right? Well not quite. I mentioned £200,000 in 2006 prices. As I don’t plan to retire until 2044 (when I’m 65, although hopefully sooner!) I need to estimate how much money I would need in 2044 to be the equivalent of 2006. I estimated inflation would average 2.5% (currently 2.3% and the government seems keen to keep it below 2.5%). The 38-year period between 2006 and 2044 at 2.5% annual growth (inflation) would require £511,000 to replicate £200,000 at 2006 prices. So my target was to build a fund of £511,000 by 2044.
Sounds a lot. Save £511,000 in 38 years. That’s an average of £13,447-a-year. I only earn £20,000-a-year, it’s not possible! Well not quite. We have time for the fund to grow. The higher the growth rate the less we need to save. Looking back at my spreadsheet for July 2006 I see at a growth rate of 7% I would need to save £166-a-month. If I wanted to be more cautious and estimate a growth rate of 6% then I would need to save £233-a-month. Both these figures, £1,992-a-year and £2,796-a-year seemed reasonable. In 2006 I began working in Korea with a salary of around £19,400-a-year. So saving £1,992-a-year represented just over 10% of my salary. By aiming to save over 15% of my salary I would be well on target to achieve my goal, even with a growth rate below 6%.
So that’s how I began. Simply putting aside 15% of my salary each month. Next time I will let you know how the first year of saving went and how I began investing this money. Again I welcome any questions and comments you have. I hope you found the above useful. Thanks for reading.