Saturday, May 14, 2011

Financial Planning for the Rest of Your Life

A couple of days ago, on a boring afternoon at our graduate students' office, I was thinking about what I'll do after I graduate from the PhD program. Going back to the academe would definitely be my first priority, maybe here, maybe back in the Philippines. The problem with that option, regardless of how much I love it, is that it usually does not pay very well; for someone like me who's on the brink of middle age and for whom marriage and family life are just around the corner, that's not a particularly pleasing prospect.

So I asked myself, given my vices and predilections, and given the things that I want to do in the next few years, how much would I need to earn when I reenter the labor force (hopefully) soon after I graduate in 2013?

I used this sketchy plan as a starting point for my analysis:
  1. Graduate in 2013.
  2. Find and marry a sweet, simple, and intelligent lady after a couple of years.
  3. Have and raise two beautiful children. 
  4. Send my kids to the best schools.
  5. Live till age 100.
That pretty much covers the important stuff. Here are all the necessary assumptions for the model:

Working my Excel magic and time value of money hocus pocus, I came up with this figure: 

100,182 pesos household income per month, gross of taxes

Now let's try to make sense of that number: is it high or low? How easily will I be able to find a teaching job that pays that much? Might be more feasible here in Hong Kong, but I would have to adjust my computations to reflect the higher prices here. In the Philippines... well, I guess I would just have to find me a sweet, simple, intelligent, and high-earning lady to marry. :)

Another way to make sense of the analysis results is by looking at the total present value figure of 21,169,012 pesos. It means that if I have that much money in 2013, the starting year of my analysis, invest at my assumed rate of return (7% per year), then I'd be set for life and I wouldn't have to worry about anything. But since I don't have that kind of money, I may just have to find me a sweet, simple, intelligent, and rich lady to marry. :D

I know that the approach is pretty simplistic, and excludes possibly significant costs like insurance and medical expenses, but it should be enough to give you a rough idea of how you'll need to prepare for your future financial needs. If you want to try it out for yourself (and check if my formulas make sense), here's the Excel file. On the "assumptions" tab, I highlighted the cells you can change to suit your specific needs or circumstances: the results on the other tab should be able to automatically reflect the changes that you make. You'll also notice that the approach is mostly "brute force," since I didn't want to use VBA macros and just stick with formulas (that's why I've hard-coded the maximum number of children as 5). If you notice any bugs, kindly point them out to me so I can make the necessary corrections.

Here are a few interesting findings from using from this tool:
  1. If I stay single (household income = "n", wedding cost = 0, children = 0), I would need to earn 47,000 pesos per month to support myself, which is almost half of my original target income. This supports the argument that having a family and sharing financial responsibility with one's spouse makes financial sense since it benefits from economies of scale.
  2. I would need a household income increase of 16,000 to 18,000 pesos per month to be able to support an extra child. The target monthly income goes down to 64,000 per month if we assume no children.
  3. Another good reason to invest: increasing the annual investment return to 9% lowers the target monthly income to 83,000 pesos.
  4. The results are very sensitive to inflation. Reducing the assumed inflation rate by 1 percentage point reduces the target monthly income by 20% to 80,000 pesos.
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