Getting started for your retirement

A fulfilling and happy retirement in Hong Kong could require more assets than you might think. You can't simply sit back and hope that everything will somehow work itself out. The government might help out with a small amount, but nowhere near enough to guarantee you a quality retirement lifestyle.

Retirement might seem a long way off. But it's important to begin saving for it as soon as you can. Otherwise to maintain your quality of life, you might have to work for more years than you want.

Why do you need to plan for retirement?

According to Hong Kong Population Projections 2004-2033^, by 2033 approximately one in four Hong Kong people will be aged 65 and over, as a result of longer life expectancies and falling birth rates. You are likely to live longer than your parents, and will probably want to retire with a standard of living similar to your current standards, if not better. Because you can't rely on the next generation to subsidise your future, you have to plan and save to finance your own retirement in Hong Kong.

^{^}^{Source: The Hong Kong Population Projections 2004-2033, Census and Statistics Department, HKSAR June 30, 2004.}

To successfully plan for your retirement you need to know about investing and the implications of your investment decisions. It starts with understanding the terms used in investing.

Investment Fund

A mutual fund (also known as a unit trust) pools money from many individual investors to achieve predetermined investment objectives. These funds are managed by professional managers. Investors enter a fund by purchasing units, and exit the fund by selling the units.

Asset Class

This refers to the type of financial instrument a fund invests in. Examples are equities (shares in companies), bonds (fixed income investments that pay regular interest) and cash or money market funds (these might be held in one or more foreign currencies).

Risk

All investments carry the risk of loss as well as the promise of gain. Smart investors are aware of risk and its implications. Here are a couple of examples of risk:

Inflation Risk
Inflation risk is the rise in prices over time. Your money buys less and less as the years pass. Your savings will lose value if they don't earn enough to stay ahead of inflation. If you simply keep your retirement savings in a bank account your hard-earned money is exposed to inflation risk. Investing in an asset class that has stayed ahead of inflation in the past, such as equities or bonds, could be a safer option in the long-run for your retirement investing.
Investment Risk
Every investment instrument fluctuates in value (volatility) meaning that there is possibility your investment will lose value in the market. If you invest in a relatively safe or conservative way, for example, by placing everything in cash, you will achieve a lower long-term return but with less short-term price movement or volatility. Generally speaking, the risk of any investment depends on its asset class (eg. equity, bond, or cash) and the length of time its performance is measured.

The chart below illustrates the different returns achieved by investing HK$100 in four different asset categories between 1986-2005. Although historic returns are not necessarily a guide to the future, the figures clearly show the higher accumulated returns from equities relative to bonds and cash during this period.

Basic Asset Class	Long-term Growth	Short-term Volatility	Investment Period
Equities	High	High	Above 10 years
Bonds	Medium	Medium	5 to 10 years
Cash / Deposits	Low	Low	Within 5 years

^{* Annual compound growth rate}^{Source: Equities - Morgan Stanley Capital International Index; Bonds - Citigroup World Government Bond Index; Deposits - HK Dollar 3 months - Inter-bank deposit rate; HKCPI - Schroder: Composite HK Inflation Index}

The above analysis shows that each asset class has its own specific risk and return characteristics that can be described in broad terms as follows:

Basic Asset Class	Long-term Growth	Investment Risk	Inflation Risk
Equities	High	High	Low
Bonds	Medium	Medium	Medium
Cash	Low	Low	High

The power of compounding

The value of beginning a retirement plan early cannot be overemphasised. The sooner you start investing, the greater the effect of compound interest over time. The following two examples illustrate this:

Zoe invests $24,000 a year for 10 years then stops at age 35 and never adds another dollar to her portfolio. Tim, however, starts to invest 10 years later than Zoe. He invests $24,000 a year, for 30 years, from age 35 to 65. Assuming an 8% annual return, who has more money at age 65?

	Zoe saves $2,000 per month from age 25 to 35	Tim saves $2,000 per month from age 35 to 65	Investment Horizon
Total Contributions	$240,000	$720,000	10 years
Total Amount at age 65	$7,030,629	$4,156,585	30 years

There are a number of ways investors can manage or reduce risk. For example:

Diversification

Spreading your assets among different types of investments helps you smooth out the potential ups and downs of your investment returns. When one investment performs poorly, the others may do better, thereby improving the overall return on your investment portfolio. As the chart above illustrates, spreading your assets among various asset classes helps to reduce risk. This is called asset allocation.

You can diversify your portfolio by spreading your investments among:

(i) Different asset classes – cash, bonds and stocks
(ii) Different markets – geographic regions, countries, sectors, currencies

Studies have shown that generally more than 90% of an investment portfolio's returns are attributed to asset allocation.

Dollar cost averaging

Investing a fixed amount regularly helps to even out the cost of an investment over time. A dollar cost averaging strategy means you buy more shares when prices are low and fewer shares when prices are high. In the example below, the monthly investment plan investor's average cost is $1.01 compared to the average fund price of $1.06.

Dollar Cost Averaging reduces the average cost

Investment of $100 per month

Month	Jan	Feb	Mar	Apr	May	Jun	Jul	Aug	Sep	Oct	Nov	Dec	Total
Amount Invested	$100	$100	$100	$100	$100	$100	$100	$100	$100	$100	$100	$100	$1,200
Fund Price	$1.00	$1.20	$1.20	$1.50	$1.35	$1.20	$1.00	$0.90	$0.80	$0.75	$0.80	$1.00	$1.06 (Average Price)
Units Allotted	100	83	83	67	74	83	100	111	125	133	125	100	1,184

Total Amount Inested	$1,200
Total Units Allotted	1,184
Average Cost per Unit	$1,200 / 1,184 = $1.01

Benefits of Dollar Cost Averaging

Reduces average unit costs by enabling you to benefit from market falls
Eliminates the need to 'time' markets by letting you accumulate more units when markets are low and fewer units when markets are high
Prevents you from investing a lump sum at the worst possible moment
Encourages a long-term perspective and enables your investments to compound over time