- How Do Pensions Work, Exactly?
- The Florida Pension Experiment
- Agenda for this Book
- Endnotes
This chapter is from the book
This chapter is from the book
This chapter is from the book
Agenda for this Book
My objective is to get you to think differently about the many decisions you make on a daily basis, and to highlight the financial and investment aspects of those decisions. The reason this type of thinking has now become more important than ever is precisely because of the very large responsibility that has now shifted into your hands; namely, the concern of creating a sustainable income for the rest of your very long life. My bias, if I do have one, is to move people away from short-term investing-by-speculating to a more prudent long-term investing-by-hedging or investing-by-protecting. What risks do you really face over the long-run of your financial life, and how do you manage all of your economic assets to protect against those risks?
For now, unfortunately, many individuals make financial decisions thinking they can outguess the market, their opponent, or nature. The truth is that few if any of us are endowed with this ability. And although it’s perfectly fine (and fun) to spend a few thousand dollars betting on whether a given penny stock, mutual fund, or economic sector will outperform another penny stock, fund, or sector, this technique is not the way to manage your personal pension, which must last for the rest of your life. I touch upon this theme—call it the “stop speculating and start hedging” theme—in a number of places within the book.
As you contemplate the possibility of a 30-year or possibly longer retirement, starting to think about managing your financial capital more effectively over your lifecycle is very important. This is more than just about creating a pension or sustainable retirement income. It is about proper risk management practiced by major corporations, applied to your personal life. So, the next few chapters will be devoted to personal financial risk management early in life, which can then prepare you for prudent risk management later in life. Of course, on the way to creating a secure pension, I must start by examining precisely how to measure the value of your own net worth. I first introduce you to the concept of human capital and why it is likely the most valuable asset you currently own or have on your personal balance sheet. With that in hand, I then move on to carefully discuss how you should think about risk and return over very long horizons and to understand the role of hedging versus investing or speculating in regards to managing our human capital. Then, after I get the preliminaries out of the way, I discuss how to properly convert and manage the risk of going from a number in your 401(k) or IRA plan to a pension that will last for the rest of your life. With the decline of traditional DB pensions, retirement income planning is more than just having the right mix of investments or saving enough in your 401(k) plan. A large sum of money in an investment plan—however you define large—doesn’t guarantee you a secure retirement. The strategy you employ and the products you purchase with your nest egg will be more important than the size of that nest egg.