Compared to generations in the past, millennials have had a tough time in their lives so far. This is a generation of investors who grew up during the Great Recession, are dealing with exorbitant student loan debt, inflated home prices and rent costs, and are now dealing with the economic fallout of COVID-19. Despite the setbacks, this generation has remained resilient and has come out the other side with more knowledge than the baby boomer generation. According to the Chase Generational Money Talks Study, 77% of millennials feel confident tackling complex financial issues compared to their baby boomer counterpart, which came in at 61%. The main issue facing millennials is this, can they actually save enough to eventually retire one day?
Here are three items that this generation needs to keep in mind when saving for retirement.
1. Save young, Invest young.
Millennials haven’t had a lot going for them so far, but the one thing that they do have is time. These tough times have also led to a more frugal generation compared to generations past. According to the Chase Generational Money Talks study we mentioned earlier, 78% of millennials now follow a budget compared to 59% of baby boomers. The rise in inflation, housing, and student loans have contributed to this shift in saving vs spending, but what is left over needs to be put to work to keep the retirement dream alive. For a typical, younger investor, their portfolios should traditionally be weighted more towards equities than fixed income due to their average returns being higher over time. Now obviously equity portfolios come with more risk, but the capital appreciation of an equity portfolio over a long period of time is greater. That said, each investor’s tolerance for risk is different, and some may not be willing to stomach the ups-and-downs of the stock market. The financial health and goals of each investor is different, this may be tough for millennials given the social media climate…. but don’t try to compare your own situation to your peers!
2. Know your investment vehicles.
Unlike prior generations, millennials do not have defined benefit plans, otherwise known as pensions, to help with income in retirement. Companies have almost entirely shifted to defined contribution plans, such as 401(k)s, which puts the onus on the employee to contribute to the plan and choose your own investment funds. The great part about 401(k)s is that you can deduct contributions on your tax return and your employer may even match your contributions to a certain point. According to a 2018 report from the Stanford Center on Longevity, only 46.5% of employees in the age group of 25-34 were eligible to participate in a work-based retirement plan. If your employer doesn’t sponsor a plan, you can still open up a traditional IRA, which has the same tax advantage of the 401(k) and more investment options. However, the maximum annual contribution is smaller than the 401(k). A great vehicle many millennials can put to use is the Roth IRA. Don’t forget many 401(k) plans also over a Roth option. This is very attractive during the early years of your career when income is lower as is tax liability. Then in later years, when income peaks, switch to pre-tax contributions within the 401(k) plan. This vehicle allows an investor to contribute pre-tax dollars to the account, investments made with this money then grow and can be withdrawn tax-free. There are other vehicles such as HSAs, SEP-IRAs, and 403(b)s which are available to many working millennials, but we will highlight those accounts another time.
3. Don’t rely on Social Security.
Not to harp on the theme too much, but these poor millennials won’t likely benefit from the same social security safety net that previous generations relied on. Currently, there are over 64 million Americans that collected social security benefits in the month of June. This number will only increase in the future as a vast number of baby boomers continue to retire. These benefits replace only around 40% of past income on average and are projected to cover only 35% of income of people retiring at age 65 in the future. As of today, there is a future shortfall of $13.6 trillion in present-value terms. To remain permanently solvent, policy changes to either reduce the amount of benefits or increase taxes to fund these obligations will need to be made. With fewer workers supplying a greater number of people receiving these benefits in the near future, it’s unlikely that this millennial generation will receive the same types of benefits as baby boomers do today.
It's important to act now, but remember that your potential retirement is also decades away. What is truly important at this age is to live within your means, stay healthy, and find enjoyment in the adventures that lay ahead of you. If you are able do these things, it doesn’t matter whether or not you retire at 50 or you work until the day you die, you will have likely lived a very pleasant life. As always, remember to consult with a finance professional before making any major financial decisions.