What comes out of your retirement calculator? (photo: Andres Rueda on Flickr)

Jonathan Kern explains retirement to the generation behind the baby boomers in the Washington Post. Let’s ignore the calculations Kern uses; I can’t get them to come out of my annuity calculator, but maybe I’m missing something. Let’s ignore Social Security altogether, since Kern does. Let’s just assume you need to accumulate the $1.5 million Kern thinks you need to assure yourself of having $50,000 per year in your retirement. For Kern, this “you” is making $100,000 at age 35, which probably isn’t exactly you, but you get the idea.

Most Americans have little money saved up. Let’s suppose you can work 30 more years. If you assume a 3% annual return, you need to add $30,611 per year to your savings, according to this calculator. Obviously very few people can save that much a year. It would be less if you assume a higher annual return. At 7%, you would need about half that.

At the end of 2009, there were about 7.8 million American millionaire households, not counting their homes, about 7% of total households, which makes it doubtful we are all going to get to be millionaires. So, the answer is clear, at least to Kern:

The bottom line is that the only way to ensure that decades from now you will have enough money to live on is to invest wisely.

So it’s imperative to educate yourself. You should understand what a bond is, how to select a mutual fund, how inflation affects your investments and so on. Even if you turn to a financial planner, you’ll need to evaluate the advice and make your own decisions about where to put your money.

I’m not going to go through the long list of traps that await the investor, ranging from the wolves on Wall Street to accounting frauds to economic cycles and inflation, and the removal of protections from small investors by the Supreme Court and a compliant congress. I’ll just tell a personal story.

When I started investing, there was a tax advantage to buying utility stocks; you didn’t pay taxes on a small amount of dividends. So I bought several, including one in the Southwest. For several years, the stock went up slowly and steadily, based largely on gradually increasing dividends. I was reinvesting my dividends, so I got a bit of compounding. Suddenly, in the late 1980s, the price began to rise more quickly. I was reading the financial statements, but I didn’t see that a significant part of the growth came from acquisition of an S&L and an equipment finance company. Due partly to those bad investments, and partly to other bad management decisions, the company got into serious financial trouble. Eventually, it reorganized outside of bankruptcy, and most of my lovely money disappeared.

Maybe Kern can explain what I should have done to protect myself from this loss. I think I was lucky I didn’t lose more. Here’s the lesson I learned: reading financial statements isn’t going to tell you when management has made a fatal error.

I also learned that the best way to make money investing is to be lucky. Unfortunately, not everyone will take this advice; probably most people won’t. What does Kern propose they do? Select better parents? Die sooner?

Here’s a good idea. Work to save Social Security insurance. If you aren’t lucky, it’s best to be protected from penury. That’s the point of Social Security. As Senator Harrison put it in the debates leading up to the enactment of the Social Security Act in 1935, a penniless old age “… may happen to any person, no matter how careful he may be of his investments, and it is almost a certainty for many of our fellow citizens with meager incomes.” [Quoted in the 1935 Congressional Record p.8223.]