How Much Should DC Savers Worry about Expected Returns?

Abstract

Many defined contribution (DC) savers and plan sponsors implicitly assume that future long-term capital market returns will be similar to those observed in the favorable markets of the past few decades. In recent history, an unexceptional savings rate of 8% each year over one’s career, together with other common industry assumptions, would have allowed DC savers to reach a target retirement income replacement ratio of 75%. Unfortunately, current market yields indicate that both stocks and bonds may deliver lower returns in coming years. This may impact savers significantly: We quantify that roughly 2% lower expected returns could almost double the savings rate required over one’s working career to achieve this same 75% replacement ratio. We conclude by briefly describing some investment strategies that may help enhance portfolio returns.

TOPICS: Retirement, portfolio construction