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What if nobody retires?
Some believe delayed retirement will fix Social Security and more. But the economy will bite back. The still-working life won't be easy.
By Jim Jubak
Lately, the idea of working longer and retiring later has become the financial planning equivalent of a free lunch.
You've heard this one from the politicians: If everyone delayed retiring for a couple of years, it would "fix" Social Security. And from the financial planners: Keep working if you haven't saved enough for a comfortable retirement.
You've probably heard it so often that the idea dances through your head whenever you start to stress out about your own retirement.
However, every investor knows that most free lunches are largely baloney. And so it is with delayed retirement. The changes in the economy that would result if all the Americans between 55 and 64 decided to work for a few more years -- and the number of Americans in this age group will be 73% higher in 2020 than it was in 2000, according to the U.S. Census Bureau -- are so sweeping that no one planning their retirement should assume that the benefits of a delayed retirement today will be around in 2014 or 2024. In a market economy, we should expect the market to bite back by making adjustments to such details as pay, demand for jobs, prices of goods and services, and tax rates.
So what would the economy look like if everyone put off retirement and kept working? In this column I'm going to sketch out my vision for that economy and suggest in as much detail as I can some companies and stocks (Hey, this is an investment column, remember?) that might benefit if the future actually does resemble my projection. (This is the third part of an occasional series on The New Economy. For the first part, click here; for the second part, click here.)
Retirement delayed
Let's start with the basic premise: that "everyone" will work longer and retire later. How sure am I of this basic assumption?
Pretty certain.
First, delayed retirement is part of current law. The last commission to save Social Security recommended that the age for collecting full benefits go up and that recommendation made it into law. Beginning in 2000 the traditional age of retirement with full benefits (at 65) began to edge gently higher until it is scheduled to hit 67 by 2022. Social Security funds stretch further if retirees either collect no benefits for two additional years or retire at the traditional retirement age of 65 with less than full benefits.
You can pretty much bet the ranch that the next Social Security fix will raise the age for full benefits even further, since the current two-year delay barely keeps ahead of projected increases in life expectancy for anyone who has survived to reach age 65.
Second, just about every benefit that now goes to retirees is likely to be worth less in the future -- creating a huge retirement gap. That includes the value of Social Security benefits, which is set to decline with the stretch-out of full benefits to 67 and with rising taxes on Social Security benefits. (The threshold for paying taxes on your Social Security benefits isn't indexed to inflation, so more retirees pay more taxes on more of their benefits as inflation rises.) Also, it includes the rising cost of premiums to pay for Medicare Part B, the part of the government insurance program that pays for doctor bills. Premiums are set to go up 17% on Jan. 1. And finally, there's the continuing climb in health care costs, which year-after-year produces higher co-pays and higher premiums, even for retirees covered by company plans. Hewitt Associates, a human resources consultant, projects the average employee contribution will rise 19% in 2005.
Those of us facing retirement in the coming decades have three major alternatives to fill that gap. First, we could get higher returns on our retirement investments than currently projected, but as investors we really don't have any control over that. Second, we could save more for retirement, but Americans as a whole are really, really bad at saving. Third, we could work longer. That's not pleasant. But working longer should be simple, right?
Wrong. It will be anything but simple.
The still-working life
If you work for a big corporation that faces international competition, don't expect to keep on working at the same job or at the same pay. Especially if you're a highly paid senior worker now. Just because this country (along with the rest of the economically developed world) faces a retirement financing crisis doesn't mean that the global trends driving outsourcing and the layoff of highly paid senior workers are about to give us a break. Cutting costs is a corporate fact of life for the foreseeable future.
The supply of older workers wanting and needing to put off retirement for a few more years will lead to some new and innovative approaches to work and retirement -- some may even be fair to older workers. For example, the Internal Revenue Service and the U.S. Treasury Department have proposed rules for phased retirement that would allow senior workers who want to keep working after retirement at their former jobs and former employers to cut their hours and receive a prorated portion of their former pay and a prorated portion of their corporate pension. (So a worker who went to three from five days would get 60% of their former pay and 40% of their current pension.) In their comments on the rules, scheduled to go into effect in 2006, employers have complained about a requirement that would make them prove that the older worker is actually doing less work for that lower pay.
Related resources on MSN Money
Big companies will restructure their work forces to take advantage of the larger supply of older workers through flexible schedules at locations convenient to populations of older workers. Wal-Mart (WMT, news, msgs), for example, has been very active in recruiting employees from the retired-but-still-working population. This group is especially attractive to employers because, since they are eligible for Medicare and have fewer dependents, they cost less in health care benefits.
Delayed retirement has the potential to create new settlement patterns. If you're looking for work instead of just a warm climate for golf, your choice of where to live in delayed retirement is likely to be very different. One of the reasons for Wal-Mart's success in tapping the pool of elder, semi-retired workers is that so many Wal-Marts are located within easy distance of retirement populations. That's not true for most businesses, and delayed-retirement workers may have to live where the jobs are. Even if that means postponing the move to warmer climes until the coming of true work-free retirement, whenever that may be.
Big companies, facing global competition and with the option of outsourcing jobs that require fewer skills, will not provide enough jobs for all the delayed-retirement workers. That gap will be filled by a surge in self-employment. Some of that will be the result of former employees going back to work for their employers as outside consultants. But unless all delayed-retirement workers go into business as consultants to other delayed-retirement workers, there will still be a huge need for self-employment. I'd look for big opportunities for franchise businesses (and franchise fraud), since senior workers will have the capital that franchise sellers look for. Also look for accelerating growth in the creation of home businesses, a trend that works to the benefit of companies such as eBay (EBAY, news, msgs) that offer low-cost distribution methods. (Other companies with platforms that could serve this market are Amazon.com (AMZN, news, msgs) and Copart (CPRT, news, msgs).)
These new small businesses will require accounting and tax services, too. That trend benefits a company like Paychex (PAYX, news, msgs) and also any company in the virtual electronic office business. (High-speed, mobile wireless connections, anyone?)
Get ready for a tax hit
The regressive nature of Social Security and Medicare taxes will result in many of these delayed-retirement workers in part-time or lower paying full-time jobs paying more in taxes than you'd expect at their income levels. The big blow won't be from the income tax but from the flat Social Security and Medicare taxes.
All workers pay a flat percentage of income for these taxes until they hit a cutoff level of earnings. After that they pay nothing. Most delayed-retirement workers won't make enough to hit that cutoff, but -- and here's the double whammy -- they could easily make enough (along with whatever income they're receiving from their retirement investments) to trigger income taxes on their Social Security payments.
This tax structure will set many delayed-retirement workers searching for additional untaxed income. That could take the form of cash income that is never reported to the IRS. (Nothing I know of says that tax evaders have to be deeply tanned 30-somethings with accounts in the Caymans.) It's also likely to take the form of barter for services and goods, in formal or informal exchanges that trade Joan's accounting skills for William's music lessons without a dollar ever changing hands. The current IRS, which has been cutting back on enforcement, is completely inadequate to police a mass migration of 65-year-olds into the underground economy.
First step is saving
And, finally, that tax structure makes a dollar saved worth much more than a dollar earned for many delayed-retirement workers. If you save $100, it all goes in your pocket without the cut that taxes take out of earned income. I'd expect that delayed-retirement workers will retain the consuming priorities they had as aging baby boomers and that they'll cling to their love affair with travel, style and the conspicuous consumption of trends as long as they can. But I'd expect that they'll try as hard as they can to consume like baby boomers at the lowest possible cost.
This might work to the advantage of Target (TGT, news, msgs) versus Wal-Mart, of JetBlue Airways (JBLU, news, msgs) versus any of the higher cost majors that you care to name, and of inexpensive luxuries such as Starbucks (SBUX, news, msgs) versus expensive luxuries such as Tiffany & Co. (TIF, news, msgs). (That's if you can beat your way to the counter through the crowd of the delayed-retirement workers who are using Starbucks as an office.)
Beyond that, it might actually lead to a renaissance in the art of saving as delayed-retirement workers take a hard look at the trade-offs between working more and spending less.
In my next column I'll tell you about a way to jumpstart your savings plan now by connecting it to a dedicated investment strategy. Saving is, after all, the first step in investing.
New developments on past columns
Mercks pain isnt Pfizers gain
This should make proving damage in those suits against Merck (MRK, news, msgs) a bit more difficult. Turns out that Eric Topol, chairman of cardiovascular medicine at the Cleveland Clinic and one of the big critics of Mercks Vioxx, served as a paid advisor to a hedge fund that shorted Merck stock. Sounds really, really bad, doesnt it? Certainly Mercks defense lawyers will try to make this conflict of interest sound as serious as possible in order to discredit any criticism of Vioxx from Topol or the Cleveland Clinic. But the facts are somewhat less black and white: Topol began his criticisms of the painkiller in 2001 and didnt begin consulting for the hedge fund until 2003, his pay from hedge fund Great Point Partners was just $12,000 a year, and he never invested in the hedge fund. On the other hand, Topol was also on the advisory board of biotech Forbes Medi-Tech (FMTI, news, msgs) and received stock options valued at $1 million when he was appointed to that board. Topol resigned from that advisory board this November. Hedge fund Great Point was an investor in Forbes Medi-Tech as well. Good luck to the jury on this one.
Protect yourself from the dollars decline
With the dollar in decline, central banks may have started to diversify their currency holdings by selling dollars and buying euros. Rumors -- and what passes for news with currency traders -- have the central banks of China, India and Russia thinking about reducing their dollar holdings. The hard numbers from the U.S. Treasury show that foreign central banks have indeed slowed their purchases of U.S. Treasury securities. For example, Japanese purchases, which grew by about $100 billion from October 2003 to March 2004, first slowed and then actually declined in September. With individual foreign investors already in retreat from the dollar, foreign central banks are the last big potential buyers of the U.S. currency. One months data from the Treasury doesnt central-bank selling make, but the trend is worrisome. Its one thing for the dollar to decline gracefully. A rout would have a much more serious effect on global financial markets and economic activity.
3 techs that could buck the market tide
This trade just isnt working out. Every time shares of Analog Devices (ADI, news, msgs) start to build up some momentum, bad news just slaps the stock back down. Last week, a research report from Sanford C. Berstein hit the stock: while inventory in customer hands has declined (a good sign, since customers with high inventory dont buy more), inventory at Analog Devices itself grew 6% sequentially in October, with the January quarter likely to bring even higher inventory levels. This week, it was the news that the Securities and Exchange Commission is conducting an inquiry into stock options that Analog Devices granted to executives just before the company announced positive earnings news. The SEC hasnt said what options grants its looking at, but speculation has centered on big grants in November 2000, just four days before an earnings surprise pushed the stock up nearly $20 a share. In a public statement, the company accurately notes that options dont vest for years after they are granted. True: Any options granted in November could not have been sold for a huge gain just four days later. Still, news of an SEC inquiry never helps a stock price. Im sticking with shares of Analog Devices through the end-of-the-year rally now in progress, but I am lowering my target price (again), as of Dec. 3, to $46 a share from the prior $52. (Full disclosure: I own shares of Analog Devices.)
Changes to Jubaks Picks
Sell Canadian Pacific Railway (CP, news, msgs)
Yep, 2005 looks great for Canadian Pacific Railway. Canadian grain shipments should recover from a drought-induced slump, coal traffic should continue to grow and import traffic from Asia is likely to turn in another strong year. Wall Street is, in fact, predicting that earnings per share will grow 23% in 2005. But all that good news is expected and already baked into the price of the stock, and I think its now time to sell. The rail sector tracked by Lehman Brothers is now trading at 16 times projected 2005 earnings, way above the historical range of 7.5 to 14 times. With Canadian Pacific at my December target price of $32 a share, I think its time to take my profits. The shares are up 33% since I added them to Jubaks Picks on Feb. 20, 2004, at $24.22.
Editor's Note: A new Jubaks Journal is posted every Tuesday and Friday.
E-mail Jim Jubak at jjmail@microsoft.com.
At the time of publication, Jim Jubak owned or controlled shares in the following equities mentioned in this column: Analog Devices. He does not own short positions in any stock mentioned in this column.
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