A simple 3-fund portfolio for soon to be retiree?

[soupcxan]

A relative needs a simple portfolio for his mid-six-figures of assets. He's 60, plans to retire in the next 5 years, and will have a nice COLA'ed gov't pension that will provide the base of his income. He lives pretty frugally so not too worried about that. Is this a reasonable proposal:

50% Vanguard total bond index
30% Vanguard total stock index
20% Vanguard total international index

He has no tax-advanted accounts, I know it would be better to hold the bonds in a tax-deferred account but at least his tax bracket will drop substantially in retirement. Is this portfolio decent? Is there a fourth fund I should consider adding? He doesn't want a 10-fund slice and dice approach. He also doesn't want to get into "exotic" things like foreign bonds (BEGBX) or commodities futures (DJP).

I got him to read The Four Pillars (a victory) but it is still sinking in...he sometimes still talks about chasing the hot sector for the year and trying to time the market. Hence I am trying to keep it simple and stable. Appreciate any comments.

 

[mickeyd]

A nice 3-fund mix that you mention.

He has no tax-advanted accounts

Why not open a Roth now and fill it up with TBM? At least part of his stash would then be tax-advantaged? He could put away up to $5k annually.

 

[CCdaCE]

If the Roth is not available, how about Vanguard Tax-Managed Balanced Fund and Vanguard Tax-Managed International Fund?

TM Balanced

TM International

-CC

 

[Empty Pockets]

A good book I read about a year ago by Ben Stein talked about a "couch potato portfolio", and how hard it was to beat. It amounted to 50% in a total stock fund and 50% in a total bond fund.

He amended it to "the thinking man's couch potato portfolio" and it amounted to 4 funds. Two stock funds and two bond funds, 50-50, with some international exposure. It appears your suggestion is somewhere in between.

It's a good book, it also speaks on different methods to withdraw the funds to enhance performance. Don't let him chase hot funds, surefire disaster, I learned myself in my youth.

 

[d]

i'd suggest something a bit lighter on bonds and international, perhaps 40% bond and international at 25% of equities.

 

[brewer12345]

Looks reasonable to me. I'd offer one modification, though: put half the bonds into a TIPS fund or I-Bonds.

 

[Olav23]

What about something even more simple, a 1-fund portfolio (as far as he is concerned)

Vanguard Target Retirement 2010 or 2005?

To him it is effectively a single fund to manage, and vanguard does the exercise of rebalancing for you. That way as he ages, all he has to think about is enjoying his retirement... (especially good if he doesn't enjoy the utility of investing)

http://www.vanguard.com/VGApp/hnw/content/Funds/FundsVanguardFundsTargetOverviewJSP.jsp

 

[soupcxan]

Looks reasonable to me. I'd offer one modification, though: put half the bonds into a TIPS fund or I-Bonds.

One of the things I don't get about TIPS is that regular bonds already have expected inflation baked into the price. So in order for TIPS to come out ahead of regular bonds, inflation has to be greater than expected over a period of time. But isn't this just speculation that you are better at predicting inflation than the market itself? Also, since his pension is COLA'ed, I wonder if he needs TIPS at all?

Thanks for the other replies. I've looked at VG's target retirement funds, but they all seem light on international exposure. Same problem with their STAR fund, and it is a little light on bonds - seems to defeat the purpose of a balanced fund if you have to add more index funds to get to your desired AA.

I have another relative who is more conservative and wary of international stocks, so she went with a 50/50 mix of Wellesley and STAR. Sound reasonable?

 

[Rich_by_the_Bay]

What about something even more simple, a 1-fund portfolio (as far as he is concerned)

Vanguard Target Retirement 2010 or 2005?

I like the Target Fund idea for your relative. Maybe add a little total international on the stock side. Sounds like he needs a low maintenance situation and that is the best: maybe a tweek every two years on his part to keep the international in range.

 

[brewer12345]

One of the things I don't get about TIPS is that regular bonds already have expected inflation baked into the price. So in order for TIPS to come out ahead of regular bonds, inflation has to be greater than expected over a period of time. But isn't this just speculation that you are better at predicting inflation than the market itself? Also, since his pension is COLA'ed, I wonder if he needs TIPS at all?

Quite the contrary. Nominal bonds are a bet that the bond market is correctly estimating future inflation (or that you think that the bond market is overestimating inflation). TIPS are an admission that you have no idea what future inflation rates will be but wish to protect your inflation-adjusted pu rchasing power (plus a real rate of interest).

 

[magellan_nh]

Nominal bonds are a bet that the bond market is correctly estimating future inflation (or that you think that the bond market is overestimating inflation). TIPS are an admission that you have no idea what future inflation rates will be but wish to protect your inflation-adjusted purchasing power (plus a real rate of interest).

This is true enough and I'm not trying to be a contrarian (I own both TIPS and nominal), but I want to make sure I understand how TIPS really behave as an asset class compared to nominal bonds.

When you buy TIPS, I assume there's a built in premium for eliminating the inflation uncertainty compared to nominal bonds? Further, that premium probably varies over time, based on how the market is pricing that uncertainty.

So I guess with either investment (TIPS or nominal), you have to make a guess about how good the market's inflation estimate is, and a guess about how much insurance against unexpected inflation is worth to you compared to the price of that insurance.

So to Brewer (the expert on this stuff), what are you thoughts on the cost of this inflation insurance? Does the cost vary much or has it been holding steady?

Thanks,

Jim

 

[mickeyd]

Ben Stein talked about a "couch potato portfolio"

Financial writer Scott Burns came up with that couch potato indea a number of years ago and has since expanded it to include his "Six Ways to Sunday" mix.

 

[crowbird]

Couple of questions about the Vanguard accounts:

1. How difficult is it to roll over ~$1.5 MM in 401K?

2. How is a monthly income generated so approach a seamless income to be deposited in spending account?

 

[brewer12345]

I'd say that there is insufficient data to come to any kind of real conclusion, since TIPS have not been around long enough. But there are already studies by academics looking at the implied inflation expectations the market has, based on yields on nominal and inflation-adjusted bonds.

I come at this from a different perspective. For a retiree, 2+% TIPS yields are attractive because the return is acceptable and there is no safer asset on the planet. For me, I know that my return hurdle is roughly 4.5% plus inflation, so TIPS at ~2.25% aren't worth it. But if they get up there, I will be buying. In the meantime, I buy stuff like ISM because it is close to my 4.5% hurdle.

 

[mickeyd]

1. How difficult is it to roll over ~$1.5 MM in 401K?

2. How is a monthly income generated so approach a seamless income to be deposited in spending account?

#1 They rollover thousands of these accounts each day at Vanguard. I have RO 2 401(k) and several IRA's with ease. Size does not matter (at least not in this instance ).

#2. I do not understand the Q. Would you mind rewording it for me?

 

[Nords]

Couple of questions about the Vanguard accounts:
1. How difficult is it to roll over ~$1.5 MM in 401K?
2. How is a monthly income generated so approach a seamless income to be deposited in spending account?

I suspect that if you tell Vanguard that you're rolling over $1.5M, they'll roll over too and do all sorts of other dog tricks to keep your business.

I don't know if they'll set up a spending account for IRAs, but you can certainly have the dividends placed in a money-market account within the IRA. Then when you're taking your RMD you can withdraw it from the MM account and transfer it somewhere else.

 

[magellan_nh]

I rolled over my 401k to a Vanguard IRA a couple of years ago. It was a bit of a pain, but everything worked out fine in the end. The strange thing was that the 401k (from my employer) was also run by Vanguard.

The snag was that my employer kept telling Vanguard that the roll-over wasn't allowed because I was still an employee, even though I had left 6 months earlier. Vanguard's service was great and they actually made it their problem to get things worked out. They called me a handful of times with updates (like when employer responded that I was still employed).

Jim

 

[Rich_by_the_Bay]

Couple of questions about the Vanguard accounts:

1. How difficult is it to roll over ~$1.5 MM in 401K?

2. How is a monthly income generated so approach a seamless income to be deposited in spending account?

1. Just as easy as rolling over $100. Call vanguard, fill out their form and they take it from there. Occasionally your 401k administrator may require an additional form as well.

2. The income stream question is more complex. Read here and elsewhere about "Safe Withdrawal Rates" and look at Firecalc (link at bottom of page). Short answer, about 4% of total assets is what you can conservatively take out each year, adjusted for inflaction.

 

[Hydroman]

I have another relative who is more conservative and wary of international stocks, so she went with a 50/50 mix of Wellesley and STAR. Sound reasonable?

That is my KISS portfolio for retirement. Objections to it have been it is light on international and lacks any small cap. But long term (over 10 years) return on this combo has been over 10% with very low volatility, so who cares if there is no small or international. I do not see why I should need anymore then that to sustain retirement, but who really knows what the future will bring?

 

[soupcxan]

Thanks for everyone's input. He settled on:

30% total US equity index
30% total international equity index
30% total bond index
10% inflation-indexed bonds (VIPSX)

I suggested a slighly higher bond allocation based on his age, but you can only do so much...this is still light years ahead of his previous investment attempts (buying pharmaceutical penny stocks that were waiting for FDA approval!).

 

[DRiP Guy]

...buying pharmaceutical penny stocks that were waiting for FDA approval!...

He owes you a debt of gratitude, and with your advice, he might even be able to afford it!

 

[Jeb-NY]

I suggested a slighly higher bond allocation based on his age, but you can only do so much...this is still light years ahead of his previous investment attempts

I would think his COLAed pension would more than take care of any lightness in bonds.

Jeb