Rethinking Retirement

Let's say that you do exactly as told: you do a sensible budget; live within your means; save a significant portion of your monthly income and invest in stocks in your youth and gradually shifted your portfolio toward bonds as you grew older. Let's say you did all of this for 40 years until age 65; it would be reasonable after all this sacrifice and discipline to expect at least a comfortable retirement.

It would be a reasonable expectation but it if the 40 years were the ones up to 2008, then you may be in for a great surprise. During this period, Jamaica's inflation averaged 17% per annum a rate that eclipsed the yield of most investment options. Let's put this in perspective: an annual inflation rate of 17% over a 40 year period means that on average, prices would have surged more than 53,000% (yes, this is a real number) over the four decades. An annual average inflation rate of 17% over a 40 year period would leave investors hard-pressed to earn real returns. An item that cost $100 in year 1 would end up costing more than $53,000 at the end of the 40 years.

Financial Analysts define a Real Return on an investment as a rate of return that is greater than the inflation rate. Therefore, if your investments earned an average of 17% per annum over the past 40 years then your real rate of return would have been 0%. This may not be as bad as it sounds as almost no form of investment earned an average annual return of 17% over the past 40 years.

For one, fixed income investments have not yielded this kind of return, but then, no one real expects fixed income investments to yield superior returns. No, for that eyes tend to gaze expectantly at the stock market. There is good reason for this. Since its inception in 1969, the stock market index has skyrocketed from 100 points to its current level of approximately 82,000 points. This is remarkable when it is remembered that at current levels, the index is well off its peak of a just a few years ago.

The only problem with this though is that most investors do not invest in the index (though there are investment vehicles that allow this). Instead, they invest in individual stocks and the results of this have been far more checkered than investing in the performance of the market as a whole. Furthermore, stock prices can be particularly volatile.

There has been an undisputed saving grace during this 40 year period though: real estate. Here’s an example: a 2-bedroom, 1-bathroom house in Portmore went for $20,000 in 1980. The same house (unimproved) now sells for at least $6 million. This an average increase of over 1000% per annum over the 28 years period. Of course this gain only becomes available if the home is sold and therein lies the problem: the wealth cannot be truly unlocked unless the home is sold. In many instances, this is the residence of the owner and sale is not a viable option.

The next best option is therefore rental. While rental income has not grown in the way that property value has, the gain has still been remarkable. Take this example: a studio flat in Mona Heights rented for $500 per month in 1989. The same flat would rent for at least $25,000 today. This is an annual gain of 245% over the 20 year period. Not as dramatic as the surge in property value but enough to provide a significant cushion against inflation , with more than enough left over to fund retirement.

This is not to say that real estate is the only good long term investment option. No, the point is that when planning your retirement funding strategy, real estate and its ability to tame the effects of inflation should not be far from your thoughts.