Expert: Allen - 2/2/2005

Question
Hello Allen,
From your instructions above it looks like you are based in the US. I am based in the UK, but I think the principles of my question will still apply.
I currently pay contributions to my employers final salary pension scheme. The company intends to close this scheme to further payments on the 31st of march this year 2005. I am 27 years old, and I have only worked here for 3.5 years, so have built up a relatively small fund, (I estimate 7000 pounds sterling including employers contributions). The company have said that the fund will increase in line with inflation and the fund guarantees me a pension of £2216 pounds per year when I qualify for retirement at age 65. This is calculated by 1.89% multiplied by final salary multiplied by number of years and whole months I worked for the company until the 31 march 2005. I dont think 2216 pounds per year will be worth much in 38 years time due to inflation, so my question is: is it worth transferring the 7 thousand pounds (minus any charges) into the new pension fund which will grow in line with stockmarket investment gains for 38 years? i.e. do you think that 7 thousand pounds invested on the 1st of april 2005 will increase in value enough in 38 years to buy a larger pension than 2216 pounds per year?
Thanks and regards,
David
P.S. I intend to start paying monthly into my employers new pension fund from the 1st of april so the 7000 pounds is not my only retirement fund, therefore I could take a bit of a gamble with it.


Answer
You are correct that I am based in the colonies. However, since you are dealing with mathematics, the answer should be independent of my location.
In order to provide a pension of 2216 pounds per year, one would need a fund of between 20000 and 30000 pounds, depending on interest rates. Let's use 25000 pounds as a reasonable approximation.
So your question is - if I invest 7000 pounds will I have more than 25000 pounds after 38 years? In order to do this your investments would have to grow by more than 3.4% per year compounded. Since I think you should be able to earn more than 3.4% on your money, I would transfer the 7000 pounds rather than taking the pension.