The Mathematics of Risk, Return and Retirement

Once said by Warren Buffett, “People who want returns without risk, often end up taking risk without returns”. Practically or traditionally, risk is measured as the probability of uncertainty of returns in a given time period. However, it actually implies the probability of not being able to attain your investment goals in a given time period.

E.g., you invested for 10 years. The probability that you may not be able to achieve your goal 10 years later is the risk associated with your investment. Generally, if your investment experiences ups and downs during these 10 years (of course sometimes it faces downturn also), it’s considered as a risky investment. However, if the end result is up to your expectations, these ups and downs are of no importance.

The question is how does this false assumption about risk affect your retirement. Indian investors and financial advisers strongly believe that the savings towards retirement should as far as be possible invested into least risky avenues. Although a good idea, but practically it overlooks the biggest risk associated with your financial situation. And that biggest risk is INFLATION. In nutshell, if you overlook inflation, you are forced to push yourself towards poverty.

During the last decade, traditional fixed return options fetched merely slightly more than 8%. An investment of Rs 10,000/- per month built a corpus of Rs 18–19 lacs. During the same period, on an average (the best situation was much better), the same investment in equity funds resulted in over Rs 25 lacs. This difference for 3 decades is however, 2.5 to 3 times over traditional fixed income options. And this difference creates a big impact on the life after retirement. The one who chose fixed income option will only be struggling with just the basic needs, while the one having chosen the other option will be seen enjoying life to the fullest after retirement.

Actually the time to utilise retirement savings is more than what we practically guess. People often consider the retirement date as the target date of their investment. Retirement is not just a phase, but the start of a long retired life. If, at the age of 45, you think that you are going to retire at 55, and, hence, the investment linked to your retirement should be absolutely risk-free, doesn’t make any sense at all. You may be enjoying the returns from your investments in the age of 65, 75 or 95 and, during these years, the prices would increase by 5–7 times or even more.

Conclusion: The traditional approach towards risk and retirement is the risk without return. People who look forward to something concrete after retirement should definitely think afresh over the above discussion and, hence, stay away getting diverted towards the traditional approach of investing.