University Times

In the wake of more requests for information on the impact of financial market upheavals on individual retirement savings, the Office of Human Resources invited TIAA-CREF chief investment strategist Brett Hammond to address faculty and staff.

Hammond (son of Distinguished Service Professor Emeritus Paul Hammond of the Graduate School of Public and International Affairs) spoke to more than 100 Pitt employees in a Sept. 30 presentation titled, “The New Rules of Investing: Six Principles for Planning a Safe and Secure Retirement.”

Despite the volatility and downward economic spiral of the past year, Hammond expressed optimism.

“The economy’s looking a little better,” he said. “It was in freefall in the fourth quarter 2008 and first quarter 2009; things were a little bit better in the second quarter — it went down, but not as much. And we’re hoping and believing and predicting that the economy will be positive in the latter half of 2009, but not enough to make up for the downturn at the beginning of the year.”

Hammond said economists are wondering how the market downturn will track. “Is it going to look like a V — they hope so — a sharp down and sharp up; a U where you spend more time at the bottom and then come back up, or a W where you go down, and then come back up and go down again? … They don’t want to use the letter L,” he quipped.

“I’m thinking more like a swimming pool. There’s a deep end and we fell into that and now we’re gradually crawling our way out and it’s going to take a long time to get to the shallow end.”

In the midst of such market decline and volatility, Hammond said, it’s easy to focus on the immediate rather than the long-term.

“There always are going to be bad times: Hopefully not the Great Depression, hopefully not World War II, hopefully not gas lines, hopefully not 9-11. But we’ve had an economic and financial meltdown in the last year. And there’s going to be volatility in the future too,” Hammond said.

“The point here is you want to create lifetime financial security for yourself,” he said, offering new rules to reorient investors’ thinking about how to create that financial security.

Old rule: Returns are key.

New rule: Savings are key.

Returns aren’t bad, Hammond said. “We all want returns, we all want more returns.”

Before 1980, Americans saved about 10 percent of their disposable personal income each year, but that’s been declining steadily.

“By this decade, Americans are saving basically nothing. We’re spending it all and in some years, spending even more than we have,” he said.

TIAA-CREF research that sampled about 100,000 accounts to determine what factors most influenced the growth in account balances found asset allocation — a factor that impacts returns — ranked third. “It wasn’t unimportant, but it was third.”

“By far the most important factor was your contribution rate,” he said.

“The more you contributed, the better off you were and the more successful you were in terms of achieving a goal of income replacement in retirement,” he said.

Second came the length of time an investor had been saving.

“You’ve got to save to have savings. It’s painful and it’s not as fun as returns, but it comes first,” Hammond said.

Old rule: Investors need access to a lot of funds.

New rule: Seek true diversification.

In theory, Hammond said, there’s nothing wrong with a wide range of choices, but in practice, too many choices can paralyze investors. For every 10 funds added to the choices in a pension fund, 3 percent more people refuse to make any asset allocation decision at all, he said.

“Focus on asset classes, not on funds,” he said. “True diversification is not 50 funds, because if you have 50 funds … not only is it hard to make a decision, but many of the funds have similar holdings.”

Hammond advised investors to choose a mix of asset classes with low correlation. “They’re going up and down at different times, so you can balance your risk and control your risk over the long run,” he said. “You’re giving yourself a smoother ride.”

Old rule: Equities are king.

New rule: Consider your risk tolerance.

“You don’t go to a cocktail party and hear somebody say, ‘Boy, did I buy that great bond last week,’” Hammond said. “No, it’s ‘I bought this hot stock.’”

Admittedly equities are sexier, but they’re also more volatile.

“You buy equities so you can get returns over the long run, but what you have to put up with is downturns which are very painful,” he said.

“You want to think more broadly.”

Understanding one’s own risk tolerance is key in determining the right asset allocation. The percentage of equities and other risky investments that should be in one’s portfolio depends on factors such as age as well as personal and family circumstances.

Newcomers to the workforce who are saving for retirement can afford more risk in their portfolio because they don’t have large holdings in the market.

“Early on, most of the money you’ll ever have in your life is in future savings — the pay checks you’re going to get, not those you’ve received,” he said.

“The day you start working you hope that the market drops like a rock,” Hammond said. “You haven’t invested anything yet … . You want the stock market to be as low as it can possibly be when you put your first dollar into it because it might go up.”

The converse is true at retirement. Those who have wrapped up their earning years have saved essentially all they’re going to save and don’t want the market to fall at all.

“That is one of the key principles in how to define asset allocation,” he said.

“It’s not because the risk of equities changes. … What really happens is when you’re early in your career, you don’t have much in the market so you can afford to take a lot more risk. When you’re older, you have a lot in the market, you want a smooth ride, so you want fewer equities.”

Old rule: Choose well-known high-performing funds.

New rule: Truly examine what you invest in.

Research shows the average half-life of a fund’s outperformance is about 36 months, Hammond said. “It means that when you get a mutual fund that is all of a sudden outperforming the market, outperforming its peers, that’s going to last, on average, about three years — which is just about enough time to get highly rated by rating services because they use a minimum of three years’ numbers.”

Simply put: “Not for all five-star funds, but for many five-star funds the most accurate thing you can say about them is that they soon won’t be,” Hammond said.

Hammond urged investors to do more analysis than merely choosing a brand name.

Investors should examine whether a fund has a consistent investment policy, recent turnovers in management, a change in investment philosophy or a change in the fund’s holdings, for example.

“Slow and steady wins,” Hammond said, noting that TIAA-CREF manages its funds with the goal of landing in the top half of the ratings. That strategy gives funds the opportunity to be a five-star, without taking the risks that may be associated with trying to be a five-star fund.

Old rule: The goal is to build wealth.

New rule: The goal is to replace income.

A primary goal of retirement savings is to achieve lifetime financial security by replacing the income that’s no longer being received when one’s working years are over.

“If you start thinking about this in terms of creating financial security for yourself, and creating an income for yourself, you may make some different decisions than if you think, ‘I’d better hang onto this,” Hammond said.

The nest egg mindset can inhibit consideration of other options such as annuities, which offer a guaranteed income.

“There’s a value in having something you can’t run out of, that you will always have an income,” Hammond said, noting he isn’t suggesting putting one’s entire retirement savings into an annuity. Instead, consider building on a base of Social Security and guaranteed income with other investments, he said.

Old rule: You’re your own best investment manager.

New rule: Rely on a trusted adviser.

“It’s not because you’re not smart,” Hammond said. “It’s because you get another view and a different perspective.”

Amid the barrage of advice on how to invest, having a trusted adviser provides a forum for discussing financial goals, circumstances and the pros and cons of various options. Having an expert’s input is important, Hammond said. “Then, you’re getting somebody else to help you deal with this. You’re not stuck doing it all yourself in an area where you’re not doing it full-time.”

—Kimberly K. Barlow