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Retirement Planning > Saving for Retirement

Don’t Buy Suze Orman’s 12% Return Projection, Retirement Experts Say

By John Manganaro

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What You Need to Know

  • In a recent Wall Street Journal Q&A, Orman suggested investors in their 20s could turn $100 a month into a $1 million retirement nest egg.
  • While compounding from a young age is important, that projection makes an unrealistic assumption about market returns, David Blanchett and others say.
  • It also doesn't account for inflation and fees, Blanchett points out.

Given the size of her platform among the general public, the commentary of bestselling author and former Merrill Lynch broker Suze Orman tends to garner a lot of attention among in the professional financial planning world — especially when her insight runs counter to the advice of industry experts.

That was the case this week following the publication of a Q&A by The Wall Street Journal featuring Orman discussing a wide range of important planning topics. Asked at one point what she thinks young people tend to get wrong about their finances, Orman pointed to a lack of appreciation for the power of compounding and the critical importance of starting to save early on.

While that insight is true, the financial planning community on X and LinkedIn quickly took umbrage with the way Orman made the point, as exemplified by a detailed post from the retirement researcher David Blanchett.

According to Blanchett and others, advisors working with clients in the real world need to be precise about the market return projections they share with clients, as unrealistically positive messaging can easily mislead novice investors.

What Orman Said

“[Young people] don’t understand the value of compounding and that the key to their financial independence is their age,” Orman told the Journal. “Let’s say you’re 25 and you put $100 a month into a S&P 500 index fund through a Roth IRA every single month for 12 months, every year, until you are 65. It’s very probable that you will average a 12% annual rate of return over 40 years. At the end of those years, you will have a million dollars. You wait 10 years until you’re 35? At the age of 65, you’ll have $300,000.”

It’s the 12% return assumption that caught Blanchett’s eye — and the ire of dozens of other commenters with various retirement industry bona fides. While 12% may be an acceptable “arithmetic nominal return” when talking about long-term average market performance, they suggested, that doesn’t mean it’s a sensible benchmark for individual financial planning — far from it.

“I cannot fathom why a personal finance expert would use arithmetic nominal returns when talking about building wealth over extended periods,” Blanchett wrote. “Using U.S. market return data primarily from the Jordà-Schularick-Taylor Macrohistory Database, the average annualized (geometric/compounded) return of the U.S. stock market from 1872 to 2023 (152 years) has been 9.0% historically, and the annualized real return (after inflation) has been 6.8%.”

These returns don’t account for fees, Blanchett notes, which would further have reduced historical returns going back in time, especially prior to the last decade or two. For example, the initial expense ratio for the Vanguard 500 investor share class index fund was 43 basis points, whereas it now stands at less than half that level.

“The nominal geometric return only exceeded 12% in five of the 113 rolling 40 year periods, which is 4.4% of the time,” Blanchett continues. “If getting 12% were ‘probable,’ one would expect a higher percentage of the periods to be at or above 12%.”

Orman declined to comment for this article.

Why Geometric Returns Matter More in Wealth Management

Blanchett’s initial post continues: “In my opinion, the geometric/compounded return should always be the return assumption when talking about building wealth over multiple periods, not the simple (arithmetic) average. In my review, this is a mistake Dave Ramsey (among others) consistently makes as well.” (See “Supernerds Unite Against Dave Ramsey’s 8% Safe Withdrawal Rate Guidance.”)

Additionally, Blanchett writes, it’s “kind of cheating” to not mention the bite of inflation, especially over a 40-year time horizon. A 2.5% inflation rate over 40 year results in $1 eventually being worth around 37 cents.

“In reality, that $1 million she mentions in the article (saving $100 a month for 40 years) is only likely to be around $250,000, using a more realistic geometric real return of 7% versus the 12% noted,” Blanchett concludes. “I get that $250,000 doesn’t sound as cool as $1 million, but at least the $250,000 is actually a (more) probable outcome!”

Deeper Insight Into Average Returns

Asked by ThinkAdvisor to expand on this discussion, Blanchett wrote via email that “there’s not much of a debate here” regarding the superior planning methodology, though confusion does arise from the fact that arithmetic returns are important in the Monte Carlo simulation process — but that is another matter entirely.

“The arithmetic return is only the appropriate input/assumption in a Monte Carlo projection because the realized return by the client will be the geometric return (incorporating the volatility within the forecast),” Blanchett explains. “If you’re doing any kind of future/present value calculation you should always use a geometric return, because that’s the return that’s going to be realized by the investor.”

Blanchett again pointed to the importance of incorporating inflation, “because obviously $1 today should be worth less in 40 years.” He also points out that, the higher the volatility of an investment, the greater the difference is going to be between the geometric and arithmetic return, as shown in the graphic below, which is sourced from the Jordà-Schularick-Taylor Macrohistory Database.

The chart contains the simple (i.e., arithmetic) and compound (i.e., geometric) returns for the a few of the key asset classes in the Ibboston SBBI series from 1926 to 2023, using calendar year returns.

“If you want to approximate the impact moving from the arithmetic average to the geometric average you would just subtract half the variance,” Blanchett says. “So, the long-term standard deviation for U.S. stocks has been about 20%. Variance is the square root of standard deviation, [which gives us] 4.47%. Take half of that and you get 2.236%. The actual difference in geometric and arithmetic returns has been 1.885%, so that’s a pretty good approximation.”

Pictured: Suze Orman. (Photo: Marc Royce)

John Manganaro

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