How Returns Affect the Amount You Save
The higher the return on your investments, the more money you make from them. Simple enough.
The more your investment return pushes your account growth toward your investment goal, the less you need to add to your account each month. Look at the example below.
Oliver's annual salary is $40,000. He saves 6% of his pay, or $200 a month, and invests it in his retirement savings plan. At an average annual return of 6%, Oliver will end up with $138,598 at the end of 25 years.
Sara also makes $40,000. She has the same total retirement goal as Oliver-about $138,600-and the same time frame-25 years. But Sara puts her money in slightly more aggressive investments and earns just 1% more-7% instead of 6%. She will be able to save less-about $170 a month instead of $200-and end up with virtually the same total account value as Oliver-$138,595 - simply because she gets a 1% higher return.
The 1% higher return does not happen automatically. Sara must balance higher return on her investments with taking on more risk and volatility. Sara and Oliver have 25 years to invest, but Sara is more comfortable with aggressive investments than Oliver. Therefore, Sara has a better chance to achieve a 7% return on her investments.
Because your comfort level with investment risk is a personal matter, no one can tell you how much volatility is right for you. If you know you're conservative, invest conservatively and sleep better at night. But remember you'll have to save more to reach your goals. If you're generally more adventurous, you may feel comfortable taking on greater volatility in an effort to achieve potentially higher returns.
While different classes of assets have varying levels of volatility attached to them, not even the most stable investments are entirely immune from prevailing market conditions. During a bull market, investment values tend to rise; in a bear market, they tend to fall. Regardless of the type of investment you have, it is likely to be affected by what's happening in the major markets as well as overall economic factors such as interest rates, the growth rate of the economy, the inflation rate and unemployment.
The best defense against investment risk is education. When you understand the difference between market risk (the risk that the value of an investment may rise and fall) and retirement shortfall risk (the risk that you've invested too conservatively to reach your financial goals) you'll be better able to put risk in perspective. Then, you'll be able to make investment decisions you can be comfortable with, now and down the road, also. To learn more about risk continue to a "Short Course on Risk". For a better understanding of investment returns, please visit "Understanding Performance" in the Starting Out section under the Investing tab.
This site is one of many tools available to help you learn about market volatility. You can supplement the information provided with other sources such as personal investment magazines and books, the financial section of local and national newspapers, commercial web-sites. A consultation with a financial planner may be necessary to determine what is right for you.
Please be advised that any of the information or content from other sources is neither supplied nor guaranteed by ING.