There is an interesting post up at Where Is The Yield that criticizes a three ETF portfolio put forth by Paul Schultheis at Pacific Asset Management that advocates 33% each in Vanguard Total Market (VTI), iShares MSCI EAFE Value (EFV) and iShares Lehman Brothers Aggregate Bond Index Fund (AGG).
I am not going to defend the portfolio, its not something I would do for anyone. If you can buy three funds and "get on with your life" you can probably buy more than three and also get on with your life if you want to be that hands off.
WITY (the pseudonym of the blog's writer) gives several reasons why he does not like the portfolio including "For a 65 year-old, for example, the equal-weight three fund allocation suggested by Schultheis is inappropriate, because 66.7% equities is too much."
His sentiment is not wrong per se but it is open to opinion and interpretation. I would say that a 65 year old with $500,000 and healthy 90 year old parents might need more than 2/3rds in equities. $500,000 properly diversified can meet an income need of $25,000 which is not a lot of money. The person in my example could live to 100 quite easily. With only $500,000 he needs growth badly. If he can live on $25,000 today, OK but ten years from now with normal inflation he may need $35,000 to live the exact same lifestyle. That means his $500,000 needs to meet his income need every year and then be worth $700,000 (minimum) in ten years.
Ten years later still a $35,000 life style in 2016 dollars may cost $50,000 in 2026. So from 2016 to 2026 the money needs pay the investor his annual income and be worth $1 million (minimum) in 2026.
Too much in bonds could result in financial crisis for this investor and the situation could be typical. $500,000 to start is a fine number but does not make anyone wealthy and more and more of us will be faced with living much longer than our grandparents.
In the coming years more and more people will need to really come to accept this and allocate appropriately. If the above investor put 40% of his $500,000 into some mix of bonds with an average maturity of ten years, his $200,000 today will still be worth $200,000 in 2016. This means that what he does have in equities will need to work much harder (read be more aggressive) to get to where he needs it to be.
There is no right or wrong with this, just subjective opinion.
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10 comments:
It is interesting that what you are saying, and I agree with it, would seem to counter this idea that the market is going to enter meltdown mode in the coming years because the baby boomers are going to approach retirement and pull their money out of the market. It would appear that most boomers will need to continue taking risks in equities with their money for quite some time, maybe most of their golden years to be able to afford their retirement.
Good points, Roger. Plus, it is possible that the 65-year-old in your example may need no bonds at all. If he or she is fortunate or foresighted enough to receive retirement income from a defined benefit package (or has purchased an annuity), that can be considered as income from a bond with a maturity that at least matches his lifetime. Say he gets $30,000 in annual retirement income, and assume 5% interest, his retirement package is equivalent to a $600,000 bond. Even if he puts all $500,000 of his investable assets into equities, his retirement "bond" means that more than half of his financial assets are in bonds. If you have a retirement "bond", you are probably already overweight in bonds. You just don't have the option of selling this bond.
Hi Roger,
Your comment is interesting. But place your theoretical 65-y/0 in the mid 1960's and she is in for a rough ride. I hope she lives to see the Reagan years.
That said, I do agree with you that this is a matter of opinion, without a clear right/wrong line. I only wish to add that I never meant 50% in long bonds. My 65 y/o would also have REITs, Prefered shares and TIPs as major components.
It is hard for me to warm up to bonds for reasons given by Roger. A retirement planner suggested to use, instead, an indexed annuity. The annuity never looses money but is capped at how much it can make per yr. Rationale for using this vehicle is that it can lower volatility of the entire portfolio. A bad year in equities will be dampened by zero performance in the annuity. Hard for me to get excited by this too. Wonder if an assortment of Hussman type oefs would be better. Still no guarantees. I imagine the industry is going to be parading a lot of products for us boomers, and I know who is smarter.
You GO! Roger.
For the poster who mentioned that for the person who invested in the mid 1960s.....you are looking at the trees, my friend. Forget about the principal, look at the dividends generated on an investment in the SP500 in that time. In other words, investigate what YIELD you would now be getting on your investment you made in the 60s......ok...you can breathe now...
g
There is a NBER research paper dated July 2006 called "Optimizing the Retirement Portfoloio: Asset Allocation, Annuitization, and Risk Aversion." By Horneff, Maurer, Mitchell and Dus.
One interesting note was that a mandatory annuitization (at age 85)was recently implemented in Germany on Personal Pension Accounts, and in the US compulsory annuitization was recommended by the recent Commission to strengthen Social Security.
It's a very "academic" paper, but one thing I seemed to get from it, -- was that the old financial services "rule of thumb" of 60% stocks and 40% bonds coupled with a fixed percentage waithdrawal rate of 4-5% per year - "is appealing for retirees across a wide range of risk preferences" (their comment)
They think that the the retiree should switch to an annuity later, which gives them a chance to make the "death bet" and hedge against rumming out of money.
I find it somewhat amusing that there are tons of data generated on stock allocations for portfolios and almost nothing for bonds.
People are told to allocate "appropriately" and very little else.
OG
Bonds are critical. Right now the SPY ivolatility is 11%, that is much too risky, because if ou lose capital in retirement there is no chance to earn it back.
Imagine if you retired in 2000 with 75% in equities?
How long have you guys been "market participants"? Not long. I have seen bonds FALL 25%
IF inflation really is coming back, you had better pray you have no bonds.
A good bunch of moderatly high dividend yielding stocks will give you an INCREASING PAYMENT EACH YEAR. Bonds only give you the coupon. If they fall 25%, that implied safety you think you have is gonna look pretty silly.
If you are making more income per year, why do you care what your principal is doing?
Remember, bonds CAN NOT go UP ubnless rates go down. Is that likely to happen? NOPE>
g
I'm just a guy trying to learn here, and trying to find the right question. Yes, it does make sense to insure that there is fixed income as a portio n of the retirement portfolio, so the issue then remains what is the best vehicle? domestic Bonds, foreign bonds, hiyiedl stocks, currency, preferreds, cefs, an annuity...? As for bonds, I'm not sure I understand the aversion to bonds if you have a ladder..which does take some money to accomplish. Would not the same sentiment apply. So what if rates are going up and the principal is going down because one is still collecting coupon interest and the ladder distributes depreciation.
lots of comments.
i will post a followup in the morning.
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