How to save $1 million by 65

(Money Magazine) -- Question: I'm 28 and would like to have $1 million by the time I retire at 65. What are some of the investing options I should consider? --Joshua Sin, Fresno, Calif.

Answer: I'm all for savvy investing, and I'll get to what I think you should do on that front in a minute. But let's not forget that when it comes to building wealth, investing alone won't do it.

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Walter Updegrave is a senior editor with Money Magazine and is the author of "How to Retire Rich in a Totally Changed World: Why You're Not in Kansas Anymore" (Three Rivers Press 2005).

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You also need to save.

I don't care how brilliant an investor you are. If you're not putting away a decent amount of money on a regular basis throughout your career, your chances of accumulating a million bucks are lower than LeBron's chances of getting elected mayor of Cleveland.

To understand what I'm talking about, let's look at a few numbers.

If you begin putting away $100 a month starting now and continue doing so until 2047, the year you'll turn 65, you would need an annual return of roughly 13.5% a year to turn that monthly hundred dollars into a million bucks.

What investment options can deliver a 13.5% annual return for almost 40 years?

None that I know of. A 13.5% long-term annual return is nearly 40% higher than the 9.8% annualized that stocks have gained over the past 80-plus years, and that near-10% figure includes some pretty dramatic run-ups in the '80s and '90s that we may not see again for a long time.

Suffice it to say that it would be wishful thinking to expect anything close to 13.5% over the long run.

If you increase the amount you save, however, you'll see that the return you need to reach your goal becomes more manageable. Save $250 a month until you're 65, for example, and you would need a 10% annualized return to hit that $1 million target.

I still consider that overly optimistic even for an all-stock portfolio, given the prices stocks are selling at today and the uncertainly surrounding the growth prospects here and abroad.

Boost your monthly savings to $400, and the return you need falls to about 8% annually. Possible? I suppose. But perhaps still ambitious. At any rate, it's higher than the 7.8% that companies in the Standard & Poor's 500 index are estimating for their pension plans, according to S&P.

At roughly $500 a month, however, the required return drops to 7% and if you can sock away just under $650 a month, you would need an annual return of about 6% a year. That seems reasonably achievable with a portfolio that contains both stocks and bonds, although not certain.

The idea behind this exercise, however, isn't to make predictions about the long-term returns for stocks and bonds. Rather, my point is to show that the more you save, the less you have to count on lofty returns. It's important to keep that in mind because ultimately we have more control over how much we save than the investment returns we earn.

That said, you don't want to invest so conservatively that you end up having to save so much that you live like an ascetic. You should be willing to take prudent risks, especially when you're young, in hopes of earning a higher rate of return and making your savings burden manageable. But you don't want to invest so aggressively that you're left in the lurch late in life if you don't get the rosy investment performance you'd hoped for.

As for translating that trade off into specific investment options, someone your age who wants a reasonable shot at a seven-figure nest egg at retirement should be investing primarily in stocks. The exact percentage will depend on a number of factors, including how much you're willing to see the value of your investments decline from time to time.

Generally, though, you're probably talking somewhere between 70% and 90% in stocks with the rest in bonds (by which I mean a diversified portfolio of stocks and bonds, along the lines of what you might get combining the total stock market and total bond market funds in our Money 70 list of recommended funds.) The more anxious you get during market downturns, the closer you'll probably want to be to the low point of that range.

Of course, you could go even more conservative, even to the point of not investing in stocks. But such a cautious approach means you'll have to pump up your savings effort quite a bit.

If you'd like to see how your chances of accumulating a million bucks changes with different savings amounts and varying mixes of stocks and bonds, check out Morningstar's Asset Allocator tool.

I'm not sure how you arrived at $1 million as your goal. Maybe it's just a nice big round number. Remember, though, having a million bucks 37 years from now isn't like having that sum today. In fact, assuming a modest 2.5% inflation rate, $1 million in 2047 would be the equivalent of having about $400,000 now. Or, viewed another way, you would need about $2.5 million in 2047 to have the purchasing power of $1 million today.

Finally, rather than shooting for a big lump sum, I think you're better off thinking about how much income you'll eventually have to replace to maintain your standard of living in retirement, and then figuring out what combination of saving and investing, along with other resources like Social Security, gives you a reasonable shot at hitting your goal. T. Rowe Price's Retirement Income Calculator can help you on that score.

Granted, at your current age any estimates you arrive at are going to be rough. After all, a lot can change over the course of 37 years. But if you save diligently, invest reasonably, monitor your progress regularly and make adjustments as you go along, you'll improve your chances of hitting 65 with the level of savings you need, whatever amount that turns out to be.