Five reasons why young people should save for a pension
For those who remain unconvinced, here are five simple reasons why:
1) It’s the first £1 saved into a pension that will make you the most money.
The effect of compound growth can’t be ignored when looking at long-term savings plans such as a pension. £1 invested for 40 years will grow a lot more each year than the same £1 invested for only 5 years.
As an example, £100 at 5% growth for 40 years would grow to £704. The same amount invested for 10 years would only be worth £165.
2) If paying into a pension on a regular basis, short-term falls in the market can help your long-term retirement plans, as you will buy into the market when prices are low, and, conversely, less when the market is high.
Pound cost averaging is a very helpful tool when saving regularly over the long-term. If you save £100 in a month and buy “units” at £1 each, you have bought 100 “units”. Next month the price of the “unit” has fallen to 50p, so the £100 will purchase 200 units. Overall £200 has purchased 300 units, whereas if all ‘units’ are all purchased in the first month then only 200 units would have been bought.
3) If you pay into a pension then under auto-enrolment rules, your employer will pay in as well.
Some employers are more generous than others, but if you do not take advantage of the pension contributions they are obliged to make you are literally throwing money away.
Missing out on an employer’s 1% contribution on a salary of £27,000 (and ignoring any increase in salary going forward) over a 40-year period and assuming 5% compound growth, leads to £270 per annum or effectively £22.50 per month lost in savings – if you saved £22.50 per month for 40 years at 5% growth you would then have £33,492 in your pension pot at the end.
4) Taking more investment risk could provide an opportunity for greater returns
Historically, the stock market has outperformed other assets over a period of 10 years or more, so those lucky enough to have a long time to go before retirement should consider the level of risk they are happy to take. If you have along time to retirement you can afford to ride out the highs and lows of stock market investment.
Fixed income, cash, alternatives such as commercial property, gold and infrastructure, may be seen as less risky, but your capital may not grow as fast as you hope. The income from cash is virtually 0% at present, which may see your pot fail to keep pace with inflation.
5) You can no longer rely on ‘gold-plated’ final salary schemes.
Few young people are unlikely to be able to benefit from so called ‘gold-plated’ final salary schemes in the same way as perhaps their parents have. Who knows what the state pension age will be when today’s younger generation retires, and even if it will still exist in the format we see today. Young people need to take more control of their retirement planning if they want to have the lifestyle they desire when they leave the workplace.
David Newman is head of pensions at Close Brothers Asset Management