Could your savings handle a cruel market twist?

The stock market is on its way to a great year in 2013. That makes this a bad time to get complacent about retirement planning.

Financial markets have a way of delivering severe twists when people least expect it. Sometimes those twists are good, as has been the case this year when the stock market has climbed by more than 20 percent despite a sluggish economy. At other times though, those twists of financial fate can seem downright cruel. Retirement planning requires you to be prepared to ride out the bad surprises along with the good.

Recent retirement saving obstacles

Two examples from recent history illustrate the type of sharp turns that can frustrate retirement-planning efforts. From the end of 1979 through the end of 1999, the S&P 500 increased at an annual rate of 14 percent a year. That period coincided with the transition of much of the corporate retirement system from defined benefit plans overseen by employers to defined contribution plans such as 401(k)s, which required employees to make investment choices. Seeing double-digit gains year after year was heady stuff for inexperienced investors, who had visions of early, wealthy retirements fueled by fast-rising stock prices.

Then came the cruel twist. Stocks went essentially nowhere from the end of 1999 through the end of last year, putting the retirement programs of many Americans terribly behind schedule. In the last part of the 20th century, you could get by with low savings rates and let the stock market do the hard work for you. So far in the 21st century, the only reliable way to grow your nest egg has been to save more.

People expect a certain amount of risk from stocks, so perhaps what has happened to deposit rates is even more cruel. From 1971 through 2000, one-month CD rates averaged 7.38 percent a year. From 2001 through the end of last year, that average was just 2.12 percent, and recent years have seen short-term CD rates fall below 1 percent. This hits retirement savings in two ways: It makes it harder to accumulate savings for retirement, and it makes those savings less effective at producing income upon retirement.

Four ways to be prepared

When something seemingly as safe as short-term bank deposits can turn against you, there's no telling what the next twist will be. However, there are some basic things you can do to be prepared to survive unpleasant surprises:
  1. Diversification. It's a basic principle, but one people tend to forget when they are chasing hot investments. Since you don't know where trouble will strike next, don't leave yourself too vulnerable in any one area.
  2. Career maintenance. Job security is tough to come by these days, but keeping your skills up-to-date and relevant will help you remain marketable.
  3. Building a cushion. When your investments do well, don't look at it as a windfall to be spent. Instead, consider it a cushion against the next setback.
  4. Spending discipline. You can't control how your investments will perform, but you can control your spending. Being disciplined will help you save more, and prepare you to live off those savings sustainably.

Again, the stock market is riding high in 2013, but that simply makes this an opportune time to prepare for the next twist in financial history.