15 October 2006

Knowing Your Assumptions

Today the Sunday Times has an article about saving for retirement. According to a survey, 90% of Singaporeans think they are saving enough by contributing regularly to their Central Provident Fund. I think that in many (most?) cases, this will transpire to be a bad miscalculation. Anyway:
Oct 15, 2006
Saving their way to early retirement
To some, a quicker exit from the rat race may be a pipe dream, but the four people featured here are working on turning that into reality

By Leong Chan Teik

LIKE most of us, Ms Chong Yih Tyng hopes to retire early.

But unlike most Singaporeans who were surveyed by a life insurance company recently, Ms Chong, 35, is on track to achieving her goal.

The chartered financial consultant and her 39-year-old husband aim to have $3.5 million in 15 years' time.

Their recipe: a lifestyle that is modest in comparison to their income, and lots of investing.

They are a rarity considering that 90 per cent of Singaporeans surveyed by insurer AXA Life think they are saving enough by contributing regularly to their Central Provident Fund.

Sadly, they will find themselves well short.

The AXA report, part of the insurer's global survey of 10,000 people, found that Singaporeans dream of retiring at an average age of 54, earlier than people of any other country.
The Sunday Times article goes on to feature four Singaporeans each of whom has their own financial strategies for saving towards their retirement. Here's one of the four Singaporeans:
Ms Chong Yih Tyng, 35

MS CHONG and her husband, a department head of a multinational company, are on the way to achieving a $3.5 million retirement nest egg.

She declined to disclose the dollar amount of what they have at the moment but says it would grow to the desired amount if two things happen over the next 15 years:

Their incomes grow by 5 per cent a year on average; and

They save regularly and plough the savings into investments that grow 10 per cent a year.

To ensure that there is money for investing, they lead a relatively simple lifestyle.

Home is a five-room HDB maisonette in Clementi, which they bought for $400,000 when they married eight years ago. It will be paid up in four years and they do not plan to upgrade to a fancier home.

Holidays are inexpensive: the couple and their five-year-old daughter usually check into a local hotel to enjoy the beach and to cycle.

To ensure their retirement goal is not derailed by ill health, they have bought insurance cover to pay for hospitalisation, critical illnesses and long-term care.

To boost their net worth, the couple invest their money, and strive to become savvy about investing.

'I spend no less than an hour every night to research on investments,' says Ms Chong. 'Our portfolio has achieved no less than 10 per cent growth a year in the last five years.'

She invests in Singapore stocks as well as park money with fund managers.

She has also invested in funds that are passive: They simply track the performance of stock indexes such as those for India, China and the Standard & Poor's 500 Index.

The couple desire to achieve $3.5 million not just so they can have the option to retire early but also for the sake of their parents, who will be in their late 70s or 80s in 15 years.

'We want to be 'free' to tend to their needs without the stress of job, time and money,' says Ms Chong.

It would also mean time for her and her husband to pursue higher education, play golf and spend time doing church work.
I often find the topic of long-term planning (for anything, not necessarily money) very interesting. What I like to investigate are the assumptions made in the planning process. Small errors in an assumption can, over the long term, lead to a large divergence between the actual and expected outcomes.

It's like standing in the middle of a soccer field and trying to kick the ball straight between the goal posts (assume that there are no defenders and no goalkeeper). This is a very difficult challenge. Theoretically all you have to do is kick the ball straight and hard. However, a small angle of deviation over a long distance (half a soccer field) means that it is very easy for the ball to completely miss the goal posts.

Let's say that like Ms Chong, you are 35 years old right now. You go to a financial planner for advice. It's very likely that the financial planner would proceed on two assumptions:

(1) You will retire around the age of, say, 60.
(2) You will die around the age of, say, 75.

Actually these are extremely huge assumptions. It is not at all obvious that in the year 2031, people would usually retire around the age of 60. Nor is it obvious that in the year 2046, people would usually die around the age of 75.

Life expectancy studies show that human beings (especially in developed countries) have been steadily living longer and longer. In ancient Greece, life expectancy for human beings was around 28 years. By 1901 in the US, life expectancy had risen to 49 years. By the year 2000, it had further risen to 77 years. In the year 2006, Singapore's life expectancy is even higher - 81.7 years.

Today, there are many scientists who believe that in future, many human beings will routinely live past 100 or 110 years.

What does this mean, in the financial planning context? Well, firstly, if you are 35 years old today and planning to save enough to support yourself until the age of 75, maybe you need to think about saving enough to support yourself for an additional 10 or 20 or 30 years (for you may die at age 85 or 95 or 105 instead).

Secondly, if you were planning to retire at 60, maybe you should contemplate the idea that at 60, you could still be quite young and energetic and could easily run a few marathons, climb a few mountain and work full-time for another 10 or 20 years.

Thirdly, you may want to consider the possibility that the long-term financial plan which your financial adviser had so painstakingly drawn up for you may, in the distant future, turn out to be an utter piece of crap. Right now, it may have its uses, but you should be regularly reviewing and tweaking it over the many years ahead.

That would be like an intelligent, self-correcting ball that constantly adjusts its own flight, as it travels across half a soccer field. It has much higher chances of scoring.

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Christopher Ng Wai Chung said...

Mr. Wang,

You certainly got his one right. Many programs being touted by financial planners grossly miscalculate life expectancies.

Personally, there is one more issue which financial planners do not bother to think of when crafting a plan for Singaporeans.

As populations age and retire, people tend to move their investments from growth instruments to yield instruments to lock down a regular income for retirement.

Yields becomes more expensive with an aging population so folks will look forward to getting less with annuitites and bonds.

So we're really stuck in this country. We're living longer and should expect less from our retirement funds.


Anonymous said...

The scenarios drawn by financial planners that go, "Let's say you want to retire at 50" or "You can expect to live till 80" are too flimsy for anyone to accept to properly consider their own financial needs.

Also, when financial planners are doing "the sell", they tend to make it such that the variables in life can be kept constant. Life occurs in such flux that I find it way too simplistic to buy into their idea and expect to rely on that and that alone.

Anonymous said...

There are many facts that do not stand up to scrutiny in the reporter's story: The couple bought a $400,000 flat 8 years ago, and they take 12 years to pay it off. Assuming they borrowed 90% at 3%, the monthly installment approximates $3,600 per month. Let's say half is from CPF, so out of cash is about $1,800. Assume again that 30% of the household income is used to service the housing loan, Which means $6,000 per month.
No wonder they don't go on overseas holidays.
Point here is most of our "journalists" are pretty naive about the real world, and they simply regurgitate what they are told, without pondering on the real truths.
Annual salary increment of 5% per annum and investments returning 10%? Dream on. I have gone round the local and foreign banks, and none can assure me a risk free 5% return - the best fixed deposit rate is about 3%. Unless, of course, you are banking on the ultimate Guaranteed Risk-free Career option.....

Christopher Ng Wai Chung said...

Well we're facing a lot of sales pitches by financial snake oil salesmen touting 17% returns in portfolio performance.

If you examine these portfolios you'll see pretty large positions in emerging markets.

I do own some emerging market funds and can confirm that the numbers are accurate ( recently ) but investors need to be very aware of the political and credit risks involved in emerging markets. It may well be 20% a year for the past few years but it takes a slight shift in the political environment to bring everything crashing down.

Emerging market stocks are more amenable to political analysis than fundamental analysis. If you want to bet on China, you might be better off guessing how long the Communist party can sustain itself rather than the price to book value of some Chinese companies..

Singaporeans are better off gunning for more stable returns of 6-8% in low expense ETFs and saving more to meet their financial targets. But I'm sure many readers will disagree with me on this. Especially those who are commissioned financial sales unprofessionals

Gilbert Koh aka Mr Wang said...


I think it's more likely that they took a longer-term mortgage (eg 20 years or 25 years); and then as their earning power steadily increased through the years, they kept prepaying on the loan (that's why they target to pay up in full in another 4 years' time).

Also since they bought eight years ago, they get to be on the old HDB loan scheme; they pay 2.6% fixed for the life of the loan, and are unaffected by rising interest rates.

Another good thing about the old HDB scheme is that you can prepay anytime you like, no penalties or prepayment fees or minimum sum or whatever; it's also easy to restructure the loan (eg from 25 years to 12 years).


Personally I am pretty heavy on emerging markets. In fact, I have very little exposure to US equities right now, and what US exposure I have is really through global sector funds (eg healthcare). You may be interested to read Andy Xie's leaked email in full:


... focusing on the part on the US.

Anonymous said...

Wah, a five room HDB flat is already very amenable by my standards. I don't seem to get why people would desperately need to have a larger home, unless they had a larger family.

As for vacations, Singapore is (targetting itself to be) a resort in itself, so yeah, often people neglect their own backyard. But, I guess they're not the ambitious types to do things like cycle up to Pahang and back.

Christopher Ng Wai Chung said...

Mr Wang,

It's ok to be heavy with emerging markets ( I can even imagine you smiling all the way to the bank as a consequence of that gearing ). Investment is a philosophical process of rationalization.

You just need to convince yourself that based on your legal training and possibly understanding of current affairs and political science that China and India will continue its fantastic growth and will not face internal turmoil.

Anotherwords, what is your view on the legal system in China and how conducive it will be to capitalism over your investment horizon ?

If you can convince yourself of that, I doubt any financial analyst would dare to disagree with a political analyst.

I'm not this heavy with emerging markets because I'm a numbers guy and politics is not my strong suit.


Gilbert Koh aka Mr Wang said...

Btw, found your book in my mailbox last night, thank you v m. :)
It looks very interesting - not merely a pure personal finance book, but (1) mixed with lots of thoughts about the practical realities of living in Singapore, and (2) observations on how money relates to all the other areas of life. I may blog about this book, after I'm finished with reading it.

Christopher Ng Wai Chung said...

Mr. Wang,

Thanks for the encouraging words, as I've noted to you privately, I hired a really bad editor. ( Myself ! )

A thumbs up from you is worth it's weight in gold.