Myths - 12% Investment Return
I have seen some financial advisors suggest a 12% return as a reasonable projection for future investment returns. Due to the stock market decline in 2000, 2001, and 2002, many advisors are starting to suggest a lower rate. The expected return rate that advisors suggest is usually tied to historical returns of the stock market or the previous performance of their investment selections. Either way, there are two factors that are usually overlooked which may reduce your investment rate:
What has been the historic return of the stock market?
Based on a study from Mellon and Ibbotson Associates at the end of 2003, the stock market has historically generated the following average returns:
Looking at the last 78 years, the historical returns would suggest using a 10.5% to 11.0% rate to project future returns. With investment management fees of 0.5% to 1.0%, this would suggest a 10% return (or lower if you want to be conservative). However, this is based on equities only. So when estimating the return in your investment, you should consider that you are probably diversified and are not invested 100% in the stock market. Thus, you should factor in returns of other investments that have lower returns like bonds and cash. For example, if you are 65% in stock which are expected to return 10% and 35% in bonds which are expected to return 5.5%, your average return would be:
This is why I suggest using a lower rate when projecting your retirement savings, even though the starting point for some websites is 10% to 12% return. Using a lower investment return is also supported by many large companies who are projecting 8% to 9% long-term return on their pension assets.
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