Retirement Planning — How to work backwards from your goal

I am sure many of us regularly think about the retirement age and the investments we need to do to lead a comfortable retirement. However, we don’t necessarily follow a structured financial planning and investment approach to meet that target corpus and age for retirement. Some of the privileged individuals can appoint financial advisors and wealth managers to do the calculation for them. However, most of us do not have that privilege where someone else can do our calculation and mange our money for us. In this blog, I will share a simple approach to doing your own retirement planning using basic mathematics, for which you don’t need to be a financial planning expert.

I will explain this with an example. Assume the following:

• You are currently 30 years old, and you want to retire at 50 years
• Your current disposable corpus / asset is $100K, and you want to retire at 50 with $3Mn
• Your current annual disposable income (salary after household expenses, loan payments, tax deductions, insurance payments etc.) is $30K

This gives you a target to build additional $2.9M (=$3M target — $100K current corpus) in next 20 years. You will have 2 main sources of income to meet this target (yes 2, not 1!) — Your annual salary and investment returns from your disposable income. Based on these, we need to back-calculate the required return on investment to meet the target.

We assumed that your current corpus available to invest is $100K. Assume that over the next 20 years, your annual salary (and disposable income of $30K) grows at 5% due to promotions etc. Your required rate of return to meet your target in this case would be 9.35% (You can calculate this required rate of return using a simple excel formula, which I am not describing in this blog, but send me comments if you need help with this calculation.)

Now this 9.35% should be your guiding metric to identify how you invest your money over the next 20 years. You can consider different portfolio allocations in a way that your weighted average return from that portfolio is this required 9.35%. Read my other blog on portfolio allocation for your investments to achieve different rates of returns.

In reality, your life situation will change and it will not be a straight line path. It is important to note that your returns will not be exactly the same every year, and you may need to continuously rebalance your portfolio depending on how far off the target you are every subsequent year. For example, if you achieve 15% return between age 30 to 31, your required return for the next 19 years until retirement will drop below 9.35% (and the opposite if you achieve less than 9.35% in the first year). It can also happen that your salary increment is higher or lower than what you expect now. The most important thing is to have a plan, and factor in these realities as time passes to update that plan!

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