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Assumptions
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Because I am a finance professor and a financial advisor, most people assume I know the answers to most financial questions, so they ask them often. Since I never want to disappointment, I always have the right answer. Regardless of what they ask, my standard reply is: Depends! For example, when they ask, “Will stocks go up?” The correct answer is, “It depends”. Will interest rates go up or down? It depends. Is real estate a good buy now? It depends. It always depends!
Why are most questions easily answered with a depends? Because the correct answer always depends on the assumptions you make. Will stocks go up? If I assume that corporate profits and employment will go up, and that inflation and interest rates will go down, then I expect stock prices to go up! If I assume that both profits and interest rates will go up, I can be confident that stock prices will go down.
You see, the right answer depends on the assumptions you use. So, using the correct set of assumptions is critical to being able to make the right financial decisions at any time. Spend time setting and understanding your assumptions and you will improve the quality of your decisions.
How do you make the proper assumptions? That’s the difficult part. Being informed and understanding financial forces and theory will help. And luck is also a formidable ally in choosing the most accurate assumptions.
When planning to retire, you should make assumptions based on the following:
- Proposed retirement date
- Life expectancy
- Income tax rates
- Inflation rates
- Inheritance
- Pension income
- Withdrawal rate
- Living expenses
- Other regular expenses
- Semi-regular expenses
- Portfolio assets
- Rates of return, etc.
It is difficult to identify the appropriate assumptions to use in making financial decisions, but if you spend the time to choose your assumptions carefully, it will be time well spent. It will also help you to avoid costly mistakes.
For more information on setting assumptions, call Professor Ulivi at 714-771-6000 or email him at professor@ulivi.com
