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Author: DrBarb Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 75797  
Subject: Pension figured into Networth??? Date: 10/10/1999 7:26 PM
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I am a retired educator and after 30 years receive $45,000 in pension. I am now working a second career, am 54, and when I figure my net worth I am not sure how to figure my pension into it. If I had invested $700,000 and then decided to take a 6% CD on that amount I would receive approx what my pension gives me. So, do I figure my pension at $700,000 into my net worth?? How does my pension figure into my net worth??? HELP ME YOU FOOL
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Author: rjm1 Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 14367 of 75797
Subject: Re: Pension figured into Networth??? Date: 10/10/1999 9:37 PM
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am a retired educator and after 30 years receive $45,000 in pension. I am now working a second
career, am 54, and when I figure my net worth I am not sure how to figure my pension into it. If I had
invested $700,000 and then decided to take a 6% CD on that amount I would receive approx what my
pension gives me. So, do I figure my pension at $700,000 into my net worth?? How does my pension
figure into my net worth??? HELP ME YOU FOOL


I will assume you are trying to do asset allocations and the value of the pension will be part of your fixed income allocation. Therefore you could do what you suggested. Or you could look at the withdrawl rate theory and say you could withdraw 4% of your savings every year to give you the 45,000. This would give you a value of 1,125,000. If the pension is not inflation adjusted then I think I would use your 700,000. The problem with this analysis is that you would have all of your money left at death. Since the pension would end and be of no value we have overstated the value.

Mathmaticaly this is a discounted cash flow problem. You would pick an interest rate, say 6% and a life expectancy, say 35 years and calqulate the future value of yearly 45,000 payments. This is about 440,000. This means that if you put 440,000 in a 6%CD you could take out 45,000 per year for 35 years and have nothing left.

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Author: dweiss3 One star, 50 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 14451 of 75797
Subject: Re: Pension figured into Networth??? Date: 10/12/1999 1:34 PM
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Dr. Paul Farrell had an article on this subject based on a question I sent him. The link is:

http://cbs.marketwatch.com/archive/19990629/news/current/superstar.htx?source=htx/http2_mw

Hope this helps.

dave


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Author: BGPenhollo Two stars, 250 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 14517 of 75797
Subject: Re: Pension figured into Networth??? Date: 10/14/1999 8:58 AM
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"I am a retired educator and after 30 years receive $45,000 in pension. I am now working a second career, am 54, and when I figure my net worth I am not sure how to figure my pension into it. If I had invested $700,000 and then decided to take a 6% CD on that amount I would receive approx what my pension gives me. "

The most logical and probably the most complex way to figure any cash flow is through what is known as a Present value of discounted cash flows. This requires an estimate of the number of payments you will receive and when. And an estimate of the discount rate 4-6% would be a good range.

If you know how to run a spread sheet or have a financial calculator this is fairly easy.

**************************************************
*Personal Disclaimer: If anyone else is familiar with PV of DCF would they please check my math. I think I am doing this right but this is not my profession*
***************************************************

If using a TI Financial BAII calculator the following values would be entered:

Num of payments into "N"

Amount of the Payment requires that the negative value goes into PMT (using Negative will yield a positive PV and using a positive value here will yield a negative PV)

Discount rate needs to be adjusted if the payment are made other than yearly. If monthly payments, divide the discount rate by 12, If Quarterly, divide by 4 and this goes into I/Y. I suggest using yearly, it is easier.

And since the payments end at your death, their is no money left at the end so future value - FV - is set to zero.

Let's say you will be receiving this pension next year
and it will be paid on a yearly basis and let's use your 6% and assume you will receive this $45,000/yr for
another 30 years.

N=30
I/Y=6
PMT=-45,000
FV=0

CPT PV (Compute PV) = $134,582.86

When you simply divide 6% into $45,000, you are finding the value of a discounted cash flow into infinity or what is known as a perpetual annuity or perpetuity and that is not what you have.

If you or anyone has Excel and wants a simple worksheet to use, please email me asking for a simple PV worksheet calculator, and I will forward one.

BGP




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Author: Helter Three stars, 500 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 14519 of 75797
Subject: Re: Pension figured into Networth??? Date: 10/14/1999 9:30 AM
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Just one comment on this:

Getting 1% per month is better than getting 12% per year.

1.01 to the 12th power i.e. compound interest =
1.126825 or over 12.5% per year.

If you are compounding over a long period of years - that 1/2 % can really add up.

1000 for 30 years at 12% per year = 29,959.92
1000 for 30 years at 1% per month = 35,949.64

So for each $1,000 in your calculation - you get a difference 30 years out of about $5,000

so rather than dividing your yearly interest rate by 12 to get monthly - take the 12th root of 1+the interest rate. In excel that's
=1.12^(1/12) which comes out at 1.009489 so
.9489% per month is 12% per year.

Helter

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Author: JABoa Big gold star, 5000 posts Feste Award Nominee! Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 14525 of 75797
Subject: Re: Pension figured into Networth??? Date: 10/14/1999 11:07 AM
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I think there are two things going on in this thread that are being confused. I'm a bit confused, anyway.

The first is what I would call net worth, which is what your estate would be worth if you cash in your chips tomorrow. So a pension which has a death benefit in cash counts, but one which you will not collect if you die too soon doesn't.

The second is how to make a gross calculation of an equivalent sum of money that takes pensions into account when you want to decide on an investment strategy for retirement planning. In this case, the calculation of the present value of a pension that you might not get, makes sense. Unless Dr. Kevorkian is your primary care physician, you have to plan as though you will live to some substantial age. So, you get a decent idea of how you're doing currently.

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Author: JAFO31 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 14559 of 75797
Subject: Re: Pension figured into Networth??? Date: 10/14/1999 9:24 PM
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BGPenhollo:

<<<<"I am a retired educator and after 30 years receive $45,000 in pension. I am now working a second career, am 54, and when I figure my net worth I am not sure how to figure my pension into it. If I had invested $700,000 and then decided to take a 6% CD on that amount I would receive approx what my pension gives me. ">>>>

"The most logical and probably the most complex way to figure any cash flow is through what is known as a Present value of discounted cash flows. This requires an estimate of the number of payments you will receive and when. And an estimate of the discount rate 4-6% would be a good range.

**************************************************
*Personal Disclaimer: If anyone else is familiar with PV of DCF would they please check my math. I think I am doing this right but this is not my profession*
***************************************************

Let's say you will be receiving this pension next year
and it will be paid on a yearly basis and let's use your 6% and assume you will receive this $45,000/yr for
another 30 years.

N=30
I/Y=6
PMT=-45,000
FV=0

CPT PV (Compute PV) = $134,582.86

JABoa is the math king around here. He can speak to the details. My eyeball approximation says that $134,582.86 is to small. Assuming beginning of year payment, then first year alone is 45k, second year is roughly $42,450, and third year is roughly 40k for a 3 year total of 127,450; the remaining 27 years must be worth more than $7,200. Even assuming end of year payments, I doubt value would drop that low.

1st year 45k
2nd year 45,000/1.06
3rd year 45,000/1.06^2
etc. . . .
30th year 45,000/1.06^29

Just my $0.02. Regards, JAFO

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Author: GrayWulff Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 14578 of 75797
Subject: Re: Pension figured into Networth??? Date: 10/15/1999 2:09 PM
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Let's say you will be receiving this pension next year
and it will be paid on a yearly basis and let's use your 6% and assume you will receive this $45,000/yr for
another 30 years.

N=30
I/Y=6
PMT=-45,000
FV=0

CPT PV (Compute PV) = $134,582.86
----------------------------------------------


JABoa is the math king around here. He can speak to the details. My eyeball approximation says that $134,582.86 is to small. Assuming beginning of year payment, then first year alone is 45k, second year is roughly $42,450, and third year is roughly 40k for a 3 year total of 127,450; the remaining 27 years must be worth more than $7,200. Even assuming end of year payments, I doubt value would drop that low.


Yes, I get a PV of $619,417 for the same data (end of period payments.) So a value of $600k to $700k seems reasonable.

Cheers,
GW


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Author: JABoa Big gold star, 5000 posts Feste Award Nominee! Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 14580 of 75797
Subject: Re: Pension figured into Networth??? Date: 10/15/1999 3:26 PM
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I get the same number as GrayWulff. Just to be explicit (and the assumption is different from JAFO's which has declining payments), you want to calculate the principal which, invested at 6%, will produce an income stream of $45,000 a year for 30 years. The principal declines each year because of the withdrawals, but is compensated for somewhat by the interest that the remaining principal earns. At the end of the 30 years, you have $0.00.

When you think about it for a minute or so, you see that this is exactly the same financial problem as a mortgage. Well, as regards calculation.

For those who want to see the formula as opposed to have a spreadsheet program calculate it for you, I (somewhat vainly) suggest they visit the Math board. Start at the beginning, it should be somewhere in the first 20 messages.

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Author: JAFO31 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 14584 of 75797
Subject: Re: Pension figured into Networth??? Date: 10/15/1999 4:18 PM
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10/15

JABoa: "I get the same number as GrayWulff. Just to be explicit (and the assumption is different from JAFO's which has declining payments), you want to calculate the principal which, invested at 6%, will produce an income stream of $45,000 a year for 30 years."

I guees I was not clear, I was not assuming declining payments but do very abbrievated present value calculations.

<<<<Assuming beginning of year payment, then first year alone is 45k present value, second year is roughly $42,450 present value [45,000 1 year from now is worth roughly 42,450 when discounted at 6%], and third year is roughly 40k present value for a 3 year total of 127,450 present value; the remaining 27 years must be worth more than $7,200 present value. Even assuming end of year payments, I doubt value would drop that low.

1st year 45k
2nd year 45,000/1.06
3rd year 45,000/1.06^2
etc. . . .
30th year 45,000/1.06^29>>>>

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