I am 40 and Worried

Suppose that you are 40 and you have $100000. You have limited income. You are worried. Will you have enough at age 70? Will you be out on the street?

You will be OK. Use commonsense and pay attention to dividends.

The First Decade

Right now is the critical time. Preserve capital. Today’s stocks are still priced at record levels. Professor Robert Shiller’s P/E10=27.

Ibonds and TIPS are totally secure. They keep up with inflation and add 1% or 2% interest. This is where you want to be right now.

Along the way, sometime within the decade, I expect stock prices to fall dramatically. Dividend yields will double or triple. You should be able to buy suitable investments that deliver 7% dividend yield or higher. I use today’s Exchange Traded Fund DVY as an example. It has a diverse combination of high quality dividend paying companies. Today, it yields 3.6%. If stock multiples (price to earnings, price to dividend, and price to book) were to fall in half, DVY would yield 7.2%. Multiples should fall even lower. Yields should rise even higher.

In terms of today’s dollars: even if you own only ibonds and TIPS, you should still have enough to buy good solid investments yielding $8000 to $9000 each year by the end of the first decade. Judging from history, this income stream will grow faster than inflation.

The Second Decade

You will be reinvesting the income stream during the second decade. In terms of today’s dollars, your investments should total more than $80000 to $90000. You should still be able to purchase high quality dividend based investments yielding 7% or more. You should be able to purchase an income stream exceeding $5600 to $6300 per year that grows faster than inflation.

Your income stream at the end of the second decade should exceed $13600 to $15300 in terms of today’s dollars. It will grow faster than inflation. Better yet, since it will still be before your retirement, you will be reinvesting this money and compounding to generate an even larger income stream. Your total income is likely to exceed $18800 per year.

The Third Decade

You should be doing well. Figure out your retirement needs. Fill in any holes. Look into MediGap policies.

Retirement Finances

In most areas of this nation, you can live comfortably on $20000 if you have health insurance and if you have paid off your mortgage. Medicare will lift the health care burden. Social security will pay the rent. Your income stream by Year 20 will be enough to meet your needs and supply a few luxuries. By Year 30, you should be doing very well.

Recap

Preserve capital during the first decade.

Invest in quality issues made up of high quality (blue chip) dividend paying companies when prices fall. Look for yields of 7%, possibly higher if prices fall dramatically.

Reinvest your income over time, building up your income stream.

Focus on the income stream and its ability to grow at least as fast as inflation. Avoid selling except to buy a more attractive substitute, assuming one comes along.

Have fun.

John Walter Russell
December 27, 2007.