Why and how can I create capital for my retirement?

To enjoy the most relaxing retirement possible it's essential to prepare well in advance, particularly from a financial point of view. But, how much would I need to live carefree or be able to retire early? It all depends on your short and long term plans, as well as your lifestyle. In this article we are going to review several options to have extra money, one of them through investment.

What is the impact of changes to the retirement age?

In 2011, the pension reform was approved in Spain, where the retirement age was increased from 65 to 67 years, or a minimum contribution of 38 years and 6 months.

This type of reforms have a different impact depending on the professional situation of each person, i.e. when they started contributing, if there are periods in which they did not contribute, job changes, if they have worked abroad, etc.

Depending on your personal and professional plans, this reform may therefore represent a loss of earnings, but at the same does emphasize the importance of preparing for your retirement.

How can you prepare your finances for retirement?

To understand why we need to have private savings to prepare for retirement, we need to understand how public pensions work and, more specifically, the replacement rate. The pension we receive when we retire is calculated taking into account our last salary, to which a discount is applied. Nowadays, in Spain, the replacement rate is high: 80% (so the discount applied is 20%). This figure is above the European average of around 50%. However, it is estimated that by 2050 the replacement rate in our country will have fallen to 45%, which may make you question: could I live on 55% of my current salary?

Pension plans are the vehicles traditionally used in Spain to supplement the public pension. According to INVERCO, there are currently more than 9 million active pension plans in Spain. However, the lack of flexibility of some of these products, low interest rates and diminishing tax benefits are reducing their popularity in favor of other options. After all, in an inflationary context, pension plans as we know them may not be enough to protect our savings from the loss of purchasing power and prepare us for a comfortable retirement.

There are interesting alternatives, such as ETF savings plans that allow us to access the capital markets with controlled risk exposure and have advantages such as higher returns (the return on traditional pension plans is around 3% over a 25-year horizon, while over 10 years the average return of the MSCI World Net Total Return index in US dollars has reached 8.14%, more than double). ETF savings plans have lower commissions and 0 penalties, greater flexibility and liquidity (which allows us to cancel or modify periodic installments at no cost), and transparency (since we have access to all the information of the underlying ETF units).

It would not be a matter of choosing between a traditional pension plan and an ETF savings plan, and discarding the other, but rather that both can complement each other to improve our retirement prospects.

What's the difference between investing and saving for retirement?

The main difference between savings and investment is their different timeframes.

Savings are short-term investments that are used to store liquid assets for a range of situations, both planned and unplanned (a trip, a major purchase, renovations, etc.). The advantage of savings is the easy access to funds. If your savings are in a current account, for example, you can get your money back at any time, without any fees or loss of value. With a long-term vision, however, savings will on average offer a lower return than investment.

The investment is intended to prepare for major expenditure in the longer term, such as a property purchase. Retirement is one of the long-term prospects for which investing makes sense. By defining an savings plan and feeding it over an extended period of time, your capital can be multiplied significantly. But remember: only invest money you know you won't need in the short term! Indeed, although it is always possible to withdraw your invested money, fees may be associated with this withdrawal, and a loss of capital linked to the state of the market is also possible.

Is it too late to start investing for your retirement at 35?

It's never too late to start investing! And, whatever your age, it's up to you to define an investment plan that suits your needs. Ask yourself: how much do you think you need for a comfortable retirement? And what resources do you have at your disposal? Perhaps you've just come into some unexpected money, which could provide a good basis for investing. You can also decide to convert part of your income or savings into an investment that can be used to top off your retirement when the time comes.

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