Saving for Retirement? Here Are 8 Terms Every Saver Should Know
Saving for retirement is important for a secure financial future. Without a sufficient nest egg it will be a lot harder to get by during your golden years. One major part of retirement success is understanding some basic terms. Shelly-Ann Eweka, a director of individual advisory services at TIAA, said mastering investment vocabulary is necessary in order to understand the choices you’ll be making with your cash. “We all have different financial situations and goals for the future. In order to choose the right path for retirement, individuals should have a good grasp of key financial terms in order to fully understand various options and tools out there … While financial advisors don’t expect individuals to know every important financial term out there, it’s helpful to have a good base knowledge of these important terms,” Eweka told The Cheat Sheet.
If you’re looking to build your vocabulary, there are plenty of tools available. You can take a class at your local library, read investing books, or take advantage of online tools. For example, Investopedia has a tool that will send subscribers a new investing word each day. Eweka elaborated on the importance of education:
In today’s connected world, financial advice can be consumed by reading relevant articles, utilizing online tools and calculators, scanning brochures, and watching web videos. All that said, one of the best ways to bolster your financial knowledge is by meeting with a financial advisor. Advisors can help elaborate on key principles and can explain how those particular options and strategies can fit into your tailored plan for retirement.
Involve the whole family
As you embark on your search for more investing knowledge, don’t forget to involve your children. This is a great opportunity to teach them the basics of investing and encourage them to learn as much as they can. Eweka advised:
While many conversations are best kept between your partner or spouse, it’s never too early to educate your children about money. A great way to start educating your child about saving and investing is by providing your child with a weekly allowance and coaching him or her to regularly put money away to save up for something he or she really wants rather than spending it right away. Setting this foundation early on will help your child in every phase of life—getting their first summer job, managing their finances in college, and being on their own for the first time after graduation.
Eweka breaks down some terms you’ll likely encounter as you learn more about retirement savings. Here’s her list of some of the top terms all retirement savers should know.
8 top retirement terms all savers should know
- Asset allocation: The strategy of dividing your investments among different assets, such as stocks and bonds. The aim is to put your money in the right place to balance risk and reward. A typical portfolio for a younger saver apportions 90% to stocks and 10% to bonds. Asset allocation adjusts itself automatically in many popular funds, such as target-date funds, based on the risk tolerance and age of the participant.
- Compounding: The investments in your retirement account earn interest—and that interest itself earns interest. The longer your money compounds, the faster it grows. Let’s suppose you own stocks are growing at 6% per year; the value of that investment will double in about 12 years but will be worth four times as much in 24 years. The earlier you start saving, the more you benefit from the “magic” of compounding. If saving is delayed, the power of compounding is lost and savers need to defer a greater percentage of their salary to catch up.
- Defined contribution plan: Defined contribution plans, such as the 401(k), have largely replaced old-fashioned defined benefit plans (where employees were promised a specific benefit in retirement). Defined contribution plans shifted responsibility from employer to employee, so now you decide how much to contribute and how that money is invested.
- Fiduciary: When planning your retirement, you may come across registered investment advisors and ERISA-appointed fiduciaries. “Fiduciary” is a legal term derived from the Latin word for “trust.” As a fiduciary, your advisor is legally required to put your interests above all others (for instance, the commission they may receive for selling you a product) and act with “care, skill, prudence and diligence.” Fiduciaries have a duty to continually monitor your investments and financial situation.
- Fixed annuities: In exchange for a lump-sum cash payment, an insurance company can provide you with a steady stream of income for life (or whichever period of time you choose). The money invested in your annuity is guaranteed to earn a fixed rate of return. Typically you need to wait for a set period of time before your payments kick in.
- Fixed-income funds: These funds are less risky than equity funds but generally provide less growth. As you near retirement, your portfolio will typically become more weighted toward fixed-income funds, such as bonds.
- Mutual fund: Professionally managed funds that pool money from many investors to invest in stocks, bonds and other securities. Typically, the cash you put into your retirement plan will be invested in mutual funds.
- Variable annuities: Like a fixed annuity, you are handing over a lump sum in exchange for a steady income in retirement. The difference is you get to choose from a mix of investments. The size of your payments will vary according to how those investments are performing.