Too conservative with savings

This dynamic has been made worse by the steady exodus of regular investors from stocks into bonds over the past year. Credit Suisse economists believe this dynamic is driven by the desire for higher returns (to outgrow inflation in an environment of ultralow interest rates) being beaten out by the desire for safety (given psychological scars from two asset price bubbles and busts in the past 12 years).

In August alone, bond funds gained nearly $32 billion -- the strongest monthly inflow since March 2010 -- while equity funds lost more than $19 billion. This continues a shift out of stocks and into bonds that's been in play since the financial crisis.

Over the past three years, Credit Suisse's Neal Soss believes the behavior of the average investor "suggests a preference for either insured bank deposits, for households seeking maximum security, or bond funds, for those looking to do better than near-zero returns." This preference, in the face of record corporate profits and a 10% year-to-date rise in the Dow, could be a huge mistake. Those investments historically return much less than stocks and, in the case of bank deposits, pay basically nothing these days.

In his words, "American households have already been disappointed by the once-in-a-lifetime house price collapse and the volatile rise in equities since the glory days of the dot-coms. Are they now setting themselves up for an unsatisfying outcome in their rush to fixed income?"

This disappointment could result in the inability to retire comfortably. A combination of lower wealth, inadequate savings, less time to retirement (for aging boomers) and lower return on investments (due to shift to bonds) could be toxic. This dynamic needs to change.

Making the math work

Let's run the numbers, with the assumption that our example wants to retire with a nest egg worth seven times his or her income. And, using the Fed's data, let's use someone with about 20 years to retirement by focusing on families in which the head of the household is between 45 and 54 years old. The median family has a net worth of $117,900 and a pre-tax income of $61,000.

Looking at their wealth holistically (stocks, bonds, and real estate) and assuming different annual pay raises (despite the fact these people in 2010 were making less than in 1989, adjusted for inflation), here is what their savings rate would need to be under different return-on-investment scenarios:

Required savings rate © MSN Money

Right now, someone saving 5% to 6% of income a year would need a return on investment of more than 5% annually for the next 20 years. Yet 10-year Treasurys are paying only 1.65%, and investment-grade corporate bonds are paying 3.5%. High-yield corporate bonds, which are more speculative, are paying 4.7%.

The math just doesn't work. People must either take more risks or take more out of their paychecks each month -- or face the consequences when they can't work anymore.

I think the preference should be a combination of higher savings (and yes, forgone consumption) and more portfolio risk by considering a shift back into equities. I'm not talking simple buy-and-hold investing, which hasn't worked since the late 1990s. And I'm not talking day-trading stocks or employing risky strategies using stock options.

In my columns, newsletter and now in my new money-management service, I've been espousing a different way. Making the market's undulations work in your favor by rotating in and out of industry groups and asset classes showing the most strength at any given time. Back in June, for example, it was all about biotech. More recently, precious metals and the related mining stocks got a huge lift.

Click here to become a fan of MSN Money on Facebook

Right now, unfortunately, nothing is really moving. So I'm recommending cash as we wait for a fresh buy signal.

But new strategies like these, and yes, some fiscal discipline and more savings, are needed to get the retirement math to work again. Until that happens, Americans who should be saving and investing are at risk of paying for their fiscal sins as they enter the twilight of life -- not a happy thought.

Be sure to check out Anthony's new money management service, Mirhaydari Capital Management, and his investment newsletter, the Edge. A free, two-week trial subscription to the newsletter has been extended to MSN Money readers. Click here to sign up. Mirhaydari can be contacted at anthony@edgeletter.com and followed on Twitter at @EdgeLetter. You can view his current stock picks here. Feel free to comment below.