A guide to saving smart for retirement in your 20s

Saving for retirement is a journey that spans your entire working life, and the importance of each variable that drives your likelihood of success changes to some extent as you age. Understanding your age-specific variables is crucial for a retirement strategy. In your 20s, the focus is on establishing a savings habit and leveraging the power of compound interest. In this article, we will again utilize our pre- and post-retirement tool based on The Big Picture from Investments Illustrated to delve into whether and in what ways the seven key variables can set you up for success in your 20s.

What matters in your 20's?

Time! In your 20’s you have the massive benefit of having multiple working years left over which you can put your money to work and have the power of compounding do the heavy lifting. This also amplifies the impact a fee reduction will have, as you are paying less and investing more over a longer period. The table below, put together by Allan Gray, clearly illustrates the importance of starting early.

The other benefit of time is an increased risk tolerance, which allows you to maximize your exposure to growth assets (equity and property) and direct offshore assets.

To understand which levers investors in their 20’s should pull, let’s use 27-year old Khumalo, a young and dynamic merchandise buyer at one of the largest sport retailers in the country. His current contract stipulates a retirement age of 65, he has already saved up R 200k towards retirement and is contributing 15% of his annual salary, or R 6 250 per month. He is invested in a multi-asset low equity solution and pays 2.5% in fees per year. To retire comfortably, or to achieve a 75% replacement ratio of his current gross salary of R 500k per annum, he needs to work towards R 7.5 million (in today’s terms). His current savings plan is basically a guaranteed failure.

The first and most important change for Khumalo is certainly asset allocation. Besides transitioning to a traditional multi-asset high equity option, we also assessed the effects of investing in a solution that maintains the maximum allocation to growth and direct offshore assets permissible under the investment regulations that govern retirement savings in South Africa, called Regulation 28. This portfolio will contain 75% equity, 15% property and 45% direct offshore exposure. We refer to this as a ‘max reg 28’ portfolio below.

From the above results we learnt a few important things:

• Increasing equity exposure by 30% from low to high, increases his chance of success by 55%;
• Increasing equity exposure an additional 15%, increases his chance of success by 13%;
• The first 50bps reduction in annual fees adds 11% to his chance of success;
• Thereafter, every 0.50% will only increase his chance of success by about 5%;
• Similarly, every additional R 1 000 per month in contribution, adds about 5% to his chance of success.

Khumalo has some options. Increasing his asset allocation from low to high equity is a no-brainer and so is reducing his fees from 2.5% to 2.0%. Thereafter, he has a few ways he can reach the ‘80% success rate sweet spot’. He can either:

• increase his asset allocation to a maximum reg 28 solution;
• or he can increase his monthly contribution by R 2 000;
• or he can reduce his fees to 1.5% and increase his monthly contribution by R 1 000 to R 7 300.

So, what matters most?

Each life stage presents distinct opportunities to enhance your retirement savings strategy. At all ages, it’s worthwhile to bank the easy wins by optimizing asset allocation and reviewing total charges. This combined with diligence in adjusting contributions ensures a robust retirement plan. To succeed in saving for retirement, make sure you set regular ‘pit stops’ for yourself to adjust your strategy throughout your working life.