Question
Amaya and Sven both went to work for different employers upon graduation from college. They were paid the same and both were able to save
Amaya and Sven both went to work for different employers upon graduation from college. They were paid the same and both were able to save $12,000 per year in their respective 401(k) accounts each year for 45 years. They both retired at age 67. The two friends each earned an average of 7.5% gross return on their retirement account balances. The only difference is that Amaya's employer used low-cost index funds while Sven's employer used fully-managed mutual funds with higher costs. Amaya's funds averaged an annual cost of 20 basis points (two-tenths of one percent) while Sven's funds averaged an annual cost of 120 basis points (1.20%).
a. Calculate their account balances at retirement and describe the effect on their respective retirements; provide your worksheet and explain the lesson to be learned from this problem. (Each calculation is the future value of a 45 year ordinary annuity. While there are several means of calculating the effect of the investment costs, I would recommend reducing the average gross return by the annual cost. Again, I recommend using Excel by selecting "Formulas" on the menu bar across the top of the Excel page, and then "Financial" on the drop down bar-then scrolling down to "FV".)
b. How might this calculation change the way you look at your own retirement plan and account?
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