How Much Does a Dollar Cost?

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Retirement

Take a dollar out of your wallet and have a good look at it. What's the first thing that comes to mind? Most likely, it's what that dollar will buy, although admittedly, that's not very much. But even if a dollar doesn't buy what it used to, we still think of a dollar in terms of purchasing power.

But what if there was another way to think of a dollar? What if the way we should think about a dollar is not what it buys , but what it costs - and more importantly, what it will cost at some point in the future? If we can reasonably estimate the future cost of a dollar, would it change the way you plan for retirement?

A Dollar Today, A Dollar Tomorrow

Before we can answer these questions, let's explain what we mean by the cost of a dollar by reverse engineering the problem. If you went back twenty years to 1993, what would be the cost of earning a nominal dollar in 2013?

It's a complex problem to solve. You would have to account for inflation, but you should be able to offset some of its corrosive effects by leveraging interest rates and investment returns. If you had an actuarial frame of mind, you might even negotiate a discount based on the likelihood that you would live until 2013 to collect your dollar.

If this sounds like the thinking that goes into pricing annuities, it's intended to. Insurance companies are in the business of pricing (and delivering) future income. If we can harness some of the insights of their pricing models and make them easily available to individuals, we would have a powerful new way of helping people understand how their current savings might support their future spending.

From Retirement Savings to Retirement Spending

Most people, as they near retirement, look at their savings balance and try to determine how long they can make it last. That's a difficult thing to do as an individual, in large part because we don't know how long we are going to live. Insurance companies, by contrast, have the advantage of pooling together large numbers of people and use mortality tables to predict future payouts.

BlackRock has introduced a series of indexes and an online tool designed to help individuals solve that problem.  Currently, there are ten BlackRock CoRIā„¢ Retirement  Indexes, one each for people from the age of 55 to 64 that estimate on a daily basis the cost of one dollar of annual lifetime income beginning at age 65. For instance, a CoRI Index Level of $16.42 means that you should have $16.42 today for each dollar of annual lifetime income you'd like to begin receiving at age 65. The index levels are calculated using many of the same real world factors used by annuity companies, including life expectancy and inflation adjustments. (For more details, check out this overview .)

The CoRI Indexes may sound complicated, but they are actually fairly simple to work with and understand. CoRI, our online tool , lets you explore the Indexes by easily translating between a lump sum and estimated annual retirement income. While the CoRI Indexes are designed specifically for people within ten years of turning 65, it can be an eye-opening education for anyone to go to the tool and plug in numbers.

What the CoRI Indexes give you is a new way to think about retirement planning. They provide an intelligent estimate about the cost of a future stream of dollars, or what you may need to save to produce a desired future lifetime income. Why that's important and how you can use this insight is something that I will be returning to in future blog posts.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Retirement

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