At the end of the summer, my sister dropped off her triplets to start their separate academic journeys through the hallowed halls of three different private universities. As those of you who have endured (or at least borne witness to) the college application process understand, it is a very stressful time. In addition to the peer and cultural pressure of applying to the right schools and finding the right fit, there is also the financial reality that the final decision may simply come down to affordability.
My sister, during the process: “Do you know how much this is going to cost us? We are sending three kids to school all at the same time!”
Me: “When did it hit you that the triplets would be going to college at the same time … yesterday? Or did it maybe dawn on you 18 years ago?”
I do sympathize with my sister and others who may only have one to send – I had three in college myself, two years ago. A friend of mine who is the Head of College Counseling at a local high school told me that his department issues a survey after students in their senior class make their final college decisions. One part of this survey focuses on factors that influenced their final school choice. Over the years, he explained, economics have increasingly entered into the final equation, as many families simply cannot afford certain schools and must rely upon a dwindling financial aid pool.
My point in all of this involves the need for some planning. I am not debating that there were probably many calls for my sister’s funds over the last 18 years, but this future expense was foreseeable – and could be quantified to some degree – by an amount and by the time it would be due.
It’s OK – and Smart – to Ask for Help.
This is where a good investment advisor can help, by providing objective answers to the future’s difficult questions. They can help you quantify what it is you want to acquire (a college education or a retirement) and estimate how much it may cost in future dollars.
In my early days as an advisor, one wiser than I explained that investment planning is a similar to buying a home. A home is a large financial outlay that very few can afford to make at once with cash. So, you determine a ‘down payment’ today, and arrange to finance the balance by paying periodic principal and an assumed return (interest rate) with regular systematic payments made over a specified time period. Sometime in the future, 15 or 30 years usually, you’ll own the home outright.
There are programs that advisors can run that determine what the cost of a college education might be 20 years from now. Once you have that number, you decide how much you can invest today as a down payment, then set up a series of systematic investments against the balance, with some assumed rate of return (like a mortgage payment with an interest rate). With some discipline, you’ll be on your way to accumulating enough capital for college tuition, or another financial obligation, like retirement.
Math Lessons …
Let’s assume that my sister did not make a ‘down payment’ on the educational funding for her triplets 18 years ago, but instead decided to invest $1000 a month over the entire 18 years. Hypothetically, let’s look at her investing it all in stocks, as represented by the S&P 500 Index. She could also have invested it all in bonds, as represented by the Barclay’s U.S. Aggregate Bond Index or she could have taken a balanced approach by putting 50% in stocks and 50% in bonds. Keep in mind that these values would have fluctuated over the period shown, results over other time periods would differ, and no single investment choice is always the most profitable.
If my sister invested $1000 per month for 18 years starting 9/30/1995 and ending 8/31/2013, she would have invested a total of $216,000*.
- Invested in the S&P 500 Index, that would have grown to $389,311 (6.21% average annualized total return)
- Invested in the Barclays U.S. Aggregate Bond Index, that would have grown to $354,244 (5.26% average annualized total return)
- Invested in a 50/50 blend of the two, that would have grown to $371,778 (5.75% average annualized total return)
Taking a Systematic Approach
The markets can be volatile and tough to navigate. If you reflect back on the economy and the markets over the last 18 years, you might ask yourself if you would have had the discipline or the will to invest a large lump sum at any one point in time. But a systematic approach, while not guaranteed, might have provided better returns than sticking those monies under a mattress, buying lottery tickets or doing nothing at all. Granted, my sister’s case is unusual, in that she has three kids to educate all at once over four years. But the same principal applies, no matter the size (or multiple) of the goal.
I’m not saying that the costs of these future expenditures are easy to contemplate, never mind meet; however, the first step is to quantify and the next is to engage in a process that mollifies the impact of the potential future shock. As I often like to say: Half is done, once the work has begun!
*Source: Morningstar. Data presented is hypothetical and not intended to represent the results of any actual investment product. Data based on past performance, which is no guarantee of future results. The S&P 500 Index is a general measure of U.S. stock market performance. The Barclays US Aggregate Bond Index is a general measure of U.S. bond market performance. Indices are unmanaged. It is not possible to invest directly in an index. Periodic investment plans do not assure a profit or protect against a loss in a declining market. To be effective, continuous investment must continue regardless of fluctuating price levels. Investors should consider their financial ability to continue with plan purchases through periods of low price levels.
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