(MONEY Magazine) -- I'm more than a little disappointed with calculators. I began saving regularly for retirement in the late 1970s and according to the calculator I was supposed to be pretty well off by now. What actually happened, though, was that I did OK until about 2000 but not very well since then. I'm glad I saved, but the calculator was wrong. --David R., Phoenix, Arizona
Properly used, good retirement calculators -- by which I mean ones that rely on probabilities as opposed to simply extrapolating a constant return -- can help you get a better handle on your retirement prospects.
But even the most robust calculators and software aren't crystal balls. They can't predict the future. And they're certainly not going to tell you what a volatile market like the one we've seen in recent weeks is going to do on a day-to-day basis.
As I've noted before, the best a good retirement calculator can do is project how you might do over long stretches given how much you're saving and how you're investing based on a variety of assumptions about the behavior of different types of investments.
The fact you fared well from the late '70s through the '90s isn't surprising. Stocks gained an annualized 16.6% during that period while bonds returned 8.6%.
That you haven't done so well since 2000 isn't exactly a shock either. Bonds did OK with a 6.3% annualized return for the 11 years from 2000 through 2010. But stocks, which you likely focused on given your age, returned a measly 0.4%.
Should the calculator have predicted that you would face a period of incredible returns followed by a period of lousy ones? I don't see how.
Using probabilities derived from past returns, the correlations between asset classes and the volatility of various investments, investment software can give you a sense of how things might play out over long stretches. It can also alert you that there can be some setbacks along the way where stocks do poorly.
But even though recent research from Morningstar and Ibbotson Associates has shown that severe downturns may be more common than investors previously thought, the fact remains that runs of truly horrible long-term stock returns are still low-probability events.
And even though we know such devastating reversals do occur, that doesn't mean we can predict when they'll happen. Given those two facts, I think it's unreasonable to expect even a very sophisticated calculator to act as some sort of early warning system.
So does that mean retirement calculators are useless?
I don't think so. What it means to me is that you have to be aware of their limitations and be careful how you use them.
To me their main value is that they can give you a way to gauge your progress on the road to retirement. You can plug in how much you've saved, how much you're putting away each year and how you're investing your money and get an estimate of how much of your pre-retirement income you'll be able to replace when you call it a career.
You've got to understand, though, that you're getting an estimate, not a guarantee. Which is why I think it makes sense to run a variety of scenarios -- different savings rates, different retirement dates, different investing strategies, etc.
Some calculators, such as Fidelity's Retirement Quick Check and Retirement Income Planner, even allow you to create projections based on both average and below-average market conditions.
That doesn't mean either you or the calculator will know whether you'll actually encounter above- or below-average conditions in the years ahead. But seeing how you might fare under different scenarios is valuable information that can enhance your planning.
For example, if based on your current savings regimen you see that your money will last to age 90 if the market does well but only to 75 if it doesn't, I think it makes sense to ask yourself whether you should ratchet up your savings rate just in case.
I'm sure that retirement calculators will improve in the future, allowing us to incorporate richer data, make more detailed assumptions and create more nuanced scenarios. But they still won't be able to predict the future, especially considering that financial markets are ultimately determined by sometimes erratic human behavior.
So the next time you rev up a retirement calculator, don't settle for a projection based on just one set of assumptions. Plug in several scenarios. And don't forget to view the results with some common sense and prudence as well.
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