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CD Ladder Opinions Please
Old 01-20-2008, 09:53 AM   #1
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CD Ladder Opinions Please

Excuse the rush to post without proper introduction. Bad form but I need advice badly.

Almost 60, retired 1 Jan, renters for life, frugal, no heirs, and want to set something very straight forward and safe so that the wife doesn't have to ever understand Mr. Market or have to flog herself on the streets.

I'm considering this CD ladder approach within Ray Lucia's Bucket Theory but modified to a 2 Bucket Plan as Rich_in_Tampa mused about in a previous thread. Hope neither Ray nor Rich feel offended at being mentioned here.

Need $65K income inflated at 4% yearly to age 92.

Taxable Account: (Bucket 1)
100k MM (3.7%) Slush/Emergency and first supplement source.
300k 3 Year CD (4.7%) Use interest income first, at maturity start taking incremental principle amts and diminishing yearly interest income.
300k 7 Year CD (4.8%) Same as above.
300k 15 Year CD (5.1%) Same as above.

The gist being: As expenses increase the interest alone is not sufficient so drawdown of principle starts and the account depletes to $300k at age 80.

IRA Account: (Bucket 2)
100,000,000 20 Year CD (5.5%) At age 62.5, this account's interest begins to be siphoned off at only 2% with the remaining DRIPed and compounding at 5.5.


My spreadsheets show a residual of $1,300,000 remaining at age 92.

Question is for everyone: Other than the ever-present inflation risk, does this plan seem risky??

PS: We could easily LBYM if required.
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Old 01-20-2008, 10:49 AM   #2
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Old 01-20-2008, 11:07 AM   #3
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I dont think I'd engage very long term cd's at the rates you've posted.

You're very exposed to the possibility of inflationary pressure and the level of inflation you actually experience, although your ability to LBYM will help.

I'm very concerned about any all cash or all fixed income strategies when more than 15-20 years is the term. One of you needs extensive medical care or long term care and you're going to be in big trouble.

I appreciate the urge to stay out of the rigors of the bond and equities markets, and to keep things simple. May I suggest a strategy using 5 years of cash/cd's as your first bucket, a target retirement income fund for the next ten years, and a target retirement 2015 fund for your long term 3rd bucket?

The cash first bucket will keep you out of immediate market volatility. The small equity and large bond component of the TR income fund will give you some better protection against inflation and some capital appreciation for future unexpected expenses. The TR 2015 would have a bit more equities for long term appreciation over the 15-20+ year periods and would slowly convert to a TR income by 2015.

Have each of the buckets automatically send their dividends "down the line".

You'll be seeing about 4-5% of your initial principal, but the slow improvements in capital value should give you something better than that after 4-5 years, and you'll have a larger lump of value in the 3rd bucket by the time you're in your 70's/80's and may need money for health care and long term or in home care.
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Old 01-20-2008, 11:18 AM   #4
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The trouble with a CD ladder is that it takes a long time to establish a well paying one. One where you are getting close to the same rate on all rungs. I have one that is seven years long now (but was up to 10 years until recently) paying between 5.0% and 6.25%. It is difficult, currently, to add much with good rates in the lower rungs. I would second the PFCU as a good source of good rates for NCUA insured CD's. Although I, personally, would not look at bonds or equities, CFB, like others on this board, have some very good specific advice if you are so inclined.
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Old 01-20-2008, 11:25 AM   #5
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I guess my sensitivity to all cash strategies is influenced somewhat by first and close second hand experiences with the long term results.

There are a few posters here whose parents elected for the good "sleep at night" characteristics of a cash/cd strategy, and now 20 years later are asking for money or even "ungifting" money to stay afloat, even after downsizing from a home to a small condo and drastically cutting back on spending.

Now nobody's sleeping well at night.

I'd like to see at least 6% on cd's longer than 5 years, and I doubt I'd lock in a rate longer than 7-10 years unless it was very meaty...8-9%+.
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Old 01-20-2008, 11:48 AM   #6
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Quote:
Originally Posted by Puppy Belly View Post
Excuse the rush to post without proper introduction. Bad form but I need advice badly.

Almost 60, retired 1 Jan, renters for life, frugal, no heirs, and want to set something very straight forward and safe so that the wife doesn't have to ever understand Mr. Market or have to flog herself on the streets.

I'm considering this CD ladder approach within Ray Lucia's Bucket Theory but modified to a 2 Bucket Plan as Rich_in_Tampa mused about in a previous thread. Hope neither Ray nor Rich feel offended at being mentioned here.

Need $65K income inflated at 4% yearly to age 92.

Taxable Account: (Bucket 1)
100k MM (3.7%) Slush/Emergency and first supplement source.
300k 3 Year CD (4.7%) Use interest income first, at maturity start taking incremental principle amts and diminishing yearly interest income.
300k 7 Year CD (4.8%) Same as above.
300k 15 Year CD (5.1%) Same as above.

The gist being: As expenses increase the interest alone is not sufficient so drawdown of principle starts and the account depletes to $300k at age 80.

IRA Account: (Bucket 2)
100,000,000 20 Year CD (5.5%) At age 62.5, this account's interest begins to be siphoned off at only 2% with the remaining DRIPed and compounding at 5.5.


My spreadsheets show a residual of $1,300,000 remaining at age 92.

Question is for everyone: Other than the ever-present inflation risk, does this plan seem risky??

PS: We could easily LBYM if required.
first, is the number bolded/red above a typo? Do you have a $100 million CD?

I would be hesitant on an all cash position. I am much younger (34) so I don't need to do now what you are, but I would follow the advice of others to not lock in interest rates on CDs unless you can get higher than 6% per year. 4% is not a good rate of return.

I counted $1 million in bucket one. Is this a taxable account?
What is the amount in bucket two?

I would offer this advice- my wife is in same situation as yours. She has no idea where money is (other than our accounts for IRAs are with T Rowe Price). She has no idea what asset allocation is, and has no idea what to do with 325k life insurance proceeds should I pass.

Here is how I have cushioned this for her:
While working, we have 3 CDs each with 1 months expenses in them. They mature every 30 days (90 day CD ladder).

In your world, maybe you make a 12 month CD ladder- put 1 months expenses in 12 CDs, each with a duration of 12 months. Don't spend the interest, just let it roll back into the CD. Use this for emergencies, and tell your wife where the certificates are.

65k/12= CDs of 5.1k each. Takes 65k of the 1M off the table.

Invest the remaining proceeds in a 60-40 type portfolio. If you would prefer a strategy to live off interest first, consider diversified bond funds (RPSIX for example) which own many different bond funds and have historical returns in 6-8% range. This fund does own 20% stocks, and principal is at risk, so know that going in. The 20% stocks is quite moderate, in one equity income fund which I have 45% of retirement assets in to begin with.

Next issue is to determine risk. You closed post with "does this plan seam risky". The short answer is yes, you are putting inflation risk at forefront because you want no principal risk. You also added in a "spouse education risk" and are using that as logic for taking less principal risk. I would weigh these three forces against the idea that

a) you could simplify this for wife by educating her a little. The CDs for example, cushion the time she would need to educate herself. In my case my wife files all the year end statements. At minimum she knows account numbers and phone numbers for T Rowe to get access to money invested, and has 3 months to figure things out before bills are paid late.

b) you should take some principal risk. Maybe weigh this with using TIPs, which adjust upwards for inflation. A bond position in TIPs makes sense in your situation, regardless of risk profile (principal risk or other).

c) If you have 1.6M to invest (again, how big is the IRA bucket?), you could easily come up with a plan where maybe the following is used:

900k in bucket 1 generates 27k of income
Social security provided 12k of income?
If the IRA has at least 700k in it, you would withdraw the remaining amount needed from the IRAs (26k).

d) Start converting the excess IRA to a Roth to avoid taxes (if you take out 26k from IRA, you have 65100 to take out to cap off 15% tax bracket, so 26k becomes income and 65-26=39k becomes a Roth conversion each year). Once you get most assets in the Roth, you might be able to drop income into 10% tax bracket without reducing take home income at all.
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Old 01-20-2008, 12:02 PM   #7
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CFB,
thanks for the thoughtful comments and thinking points. I will definitely look closely at your suggestion of CD, income, TR, buckets.

Thanks for the benchmarks of 7-10 years and concerns with regards the longer term.

In reading here recently, I noted you are particularly attuned to inflation. Any thoughts on whether Fed mechanisms/policy/skill are in place to avoid Carter-flation? Inflation is always a worry but I used 8% for some expenses. And still seemed to survive to 92. No fancy Monte-Carlo stuff but just spreadsheets.

I barely survived the 2000-2003 period intact financially so I figured a fixed income portfolio (after giving up the paycheck) will help me stay off the Pabst.

R Woods,
you make a very prescient comment because I was struggling to determine whether this is a time of last chance to establish a decent ladder. Particularly observing the Fed and a policy that may be 2000-2003 like. And possibly very low CD rates as a result.

Thanks for the PFCU (sorry I missed those 6.25%) and NFCU points.
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Old 01-20-2008, 12:03 PM   #8
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I am also very conservative... especially now
that I am retired from my corporate job.

My money is in laddered CDs... my house and
car are paid off... I have no cc or other debts.
I am part-time self-employed doing what I love
and I live in a less expensive part of the country.
So not only am I not touching my CD nest egg...
I am adding to it.
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Old 01-20-2008, 12:25 PM   #9
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Helena,
glad for your response because I was thinking maybe my thinking was waaaaaaaaay out there.

I put round numbers on my post to keep it easy to visualize what I was considering and like you are doing, I believe it's doable for me but it's just the uncertainty (CFB pointed it out) of inflation.

If I lock in to these sub 6% CDs and then inflation jumps to 9-10%, I'd be back to eating expired 1952 C-rations like I did in college. BTW, the beans and wieners were excellent.

Thanks for your example of making a CD ladder work. Are you in shorter terms than 7-10 years or did you buy anything over 10 years?
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Old 01-20-2008, 12:27 PM   #10
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Puppy Belly-

Most cash investments (money markets, CDs, Savings accounts) usually have a negative return when inflation is factored in. Meaning no matter how you contruct the portfolio, more than likely you will have less real dollars to purchase with than you did otherwise.

CDs have a place in most porfolios. But I would think 25-40% CDs is about as high as one would consider, and even 25% is risky (as that means 25% of porfolio is losing ground to inflation).
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Old 01-20-2008, 12:35 PM   #11
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I usually don't lock in for over 3 years out... but...
since I am part-time self-employed I will put money
into a ROTH IRA CD for a longer term if the interest
rate is good.
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Old 01-20-2008, 12:51 PM   #12
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Ooops,
$1,000,000, sorry.
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Old 01-20-2008, 12:51 PM   #13
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I've thought that long term high end inflation is unlikely to happen, but I think I may change my mind. I think a lot of inflation has been relatively invisible, in terms of quality of products and services being cut. At this point, customer service is dead and I'm pretty sure many products are made to a cost point rather than a quality point.

That sort of thing has an end stage where the quality is just abysmal and the service so bad that there isnt any more cost to wring out. At that point the ability to squeeze costs out is gone, and a lot of businesses may have to ratchet up marketing costs to bring back customers.

Still amuses me that a business will spent $100M on advertising to draw back the customers they lost by hacking off $10M in customer service and product QA to make the short term bottom line numbers better.

The other danger you face besides inflation and sudden unexpected high cost items late in life is that you dont die on schedule. If one of you lives past your 92 year plan, that could be a good bit of trouble.
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Old 01-20-2008, 01:27 PM   #14
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JiMoh,
Meant 1 million in IRA and yeah, also have 1 million in Taxable.

Thanks for the thoughts and especially since you have already thought of the ins/outs of whether the wife will/can get the financial saavy.

I like your idea of having some growth bucket and maybe 60/40 TR fund is a good compromise. And just trust that leaving that alone (if she does get control of the port) for long term growth.

But in reality if I want a portfolio that addresses inflation risk, I should trade that off against a potential mismanagement (neglect of port) risk. Seems like fixed income will always need some Mr. Market component to avoid the inflation risks.

But alas.
a) Wife wants no part of money management except spending.

b)I had not consider TIPS because they seemed very low on the "fixed" portion of the yield. But Zvi Bodie is a proponent so I need to check his methods to see if it fits my needs. Thanks for the suggestion.

c)I used round number close to actuall so it would be.
1 million in taxable Bucket 1 = $30k
$15,600 SS Ladle
1 million in IRA Bucket 2 = $30k

Well, you've certainly given me some good advice and thinking points, and in particular the "education risk" mine as well as the wifes. Thanks

I'll try to come back with a strawman based on these suggestions to gauge how to structure the portfolio,
Thanks




Quote:
Originally Posted by jIMOh View Post
first, is the number bolded/red above a typo? Do you have a $100 million CD?

I would be hesitant on an all cash position. I am much younger (34) so I don't need to do now what you are, but I would follow the advice of others to not lock in interest rates on CDs unless you can get higher than 6% per year. 4% is not a good rate of return.

I counted $1 million in bucket one. Is this a taxable account?
What is the amount in bucket two?

I would offer this advice- my wife is in same situation as yours. She has no idea where money is (other than our accounts for IRAs are with T Rowe Price). She has no idea what asset allocation is, and has no idea what to do with 325k life insurance proceeds should I pass.

Here is how I have cushioned this for her:
While working, we have 3 CDs each with 1 months expenses in them. They mature every 30 days (90 day CD ladder).

In your world, maybe you make a 12 month CD ladder- put 1 months expenses in 12 CDs, each with a duration of 12 months. Don't spend the interest, just let it roll back into the CD. Use this for emergencies, and tell your wife where the certificates are.

65k/12= CDs of 5.1k each. Takes 65k of the 1M off the table.

Invest the remaining proceeds in a 60-40 type portfolio. If you would prefer a strategy to live off interest first, consider diversified bond funds (RPSIX for example) which own many different bond funds and have historical returns in 6-8% range. This fund does own 20% stocks, and principal is at risk, so know that going in. The 20% stocks is quite moderate, in one equity income fund which I have 45% of retirement assets in to begin with.

Next issue is to determine risk. You closed post with "does this plan seam risky". The short answer is yes, you are putting inflation risk at forefront because you want no principal risk. You also added in a "spouse education risk" and are using that as logic for taking less principal risk. I would weigh these three forces against the idea that

a) you could simplify this for wife by educating her a little. The CDs for example, cushion the time she would need to educate herself. In my case my wife files all the year end statements. At minimum she knows account numbers and phone numbers for T Rowe to get access to money invested, and has 3 months to figure things out before bills are paid late.

b) you should take some principal risk. Maybe weigh this with using TIPs, which adjust upwards for inflation. A bond position in TIPs makes sense in your situation, regardless of risk profile (principal risk or other).

c) If you have 1.6M to invest (again, how big is the IRA bucket?), you could easily come up with a plan where maybe the following is used:

900k in bucket 1 generates 27k of income
Social security provided 12k of income?
If the IRA has at least 700k in it, you would withdraw the remaining amount needed from the IRAs (26k).

d) Start converting the excess IRA to a Roth to avoid taxes (if you take out 26k from IRA, you have 65100 to take out to cap off 15% tax bracket, so 26k becomes income and 65-26=39k becomes a Roth conversion each year). Once you get most assets in the Roth, you might be able to drop income into 10% tax bracket without reducing take home income at all.
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Old 01-20-2008, 02:03 PM   #15
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CFB,
It appeared to me that you took CFI estimates with a grain of salt and I whole heartedly agree on service. I get the sense that the internet impacts how companies view service these days. Seen several online companies that have no phone number to call, not ripoffs just companies not wanting to talk to customers.

Quality is getting expensive and those with longer retirments might see a real premium for quality.

But, could inflation be tamed much more easily now than in the Carter era. By that I mean much more cheap imports from China, India and equally low cost markets.

Just had in my mind that the Fed was mover savvy these days. Hate to misjudge that one and see double digit inflation.
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Old 01-20-2008, 10:21 PM   #16
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What the fed sees and what happens to a long term retiree might not be the same thing.

What matters to me is changes to my cost of living from year to year. I have some control over that, but what is and will be major issues for me arent just basic items like the cost of food and televisions, but the cost of items like health care.

So we might not see double digit CPI, but some of us might experience double digit changes in our retired cost of living.

Its not much one year to another, but losing a percent or two a year for 30-40 years can be a real problem.
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Old 01-20-2008, 10:53 PM   #17
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Welcome to the board, PB.
Quote:
Originally Posted by cute fuzzy bunny View Post
There are a few posters here whose parents elected for the good "sleep at night" characteristics of a cash/cd strategy, and now 20 years later are asking for money or even "ungifting" money to stay afloat, even after downsizing from a home to a small condo and drastically cutting back on spending.
Not that I'm bitter.

I'm learning first-hand that a fixed-income portfolio doesn't just lose out during periods of high inflation, but also low inflation.

Try this scenario: suppose you're chugging along just fine with your 6% CD ladder when the stock market hits a long-term air pocket caused by some fundamental overvaluation (pick a headline from the last 25 years). For whatever reason the Fed starts slashing interest rates and ends up at 1.25% (like during 2000-2002) and stays there for a few years. The yield curve looks like an upside-down bowl and it's getting flatter.

As each of your CDs matures, you'll be rolling them over into long-term CDs of 2-3% (because the short-term ones are only paying 1.5%). Eventually your income has dropped by over 50% and you have a choice of digging into the principal or cutting back your spending. Due to the fiscal environment and the type of headlines you're likely to see during this type of period, I highly doubt that you (let alone your spouse) will be comfortable with spending the principal, even if FIRECalc says you're 100% good to go.

Even worse, as the economy recovers (hopefully during your lifespan) and the yield curve returns to normal, you'll be stuck with a bunch of long-term low-interest CDs. You could redeem them (at a penalty, of course) and re-ladder, but how high will interest rates go before they're "high enough"? How many times will you have to do this to get it right? How much in penalties will you pay? I suspect you'll find yourself paralyzed with fear at this point and cutting spending even further.

No doubt you'll find yourself agonizing over every dollar spent, maybe even to the point of hassling other family members over their apparently profligate happy-go-lucky clueless frittering away of your grandchild's grocery money. Hypothetically speaking, of course.

And this at a time when your hypothetical remaining life expectancy is still 25 years... or more.

Bernstein and many other asset-allocation experts see no problem with adding 10-20% equities to an extremely conservative portfolio. It still might not keep up with inflation but it'll raise returns without significantly affecting volatility.

Or you could go with CFB's & UncleMick's "Psssssst.... Wellesley" approach and stay ahead of inflation while not having to worry about losses or volatility.

Quote:
Originally Posted by Puppy Belly View Post
In reading here recently, I noted you are particularly attuned to inflation. Any thoughts on whether Fed mechanisms/policy/skill are in place to avoid Carter-flation?
Many retirees are already depending on the federal govt to take care of their Social Security payments. Are you sure you want to also depend on the Fed to take care of your inflation exposure? The Fed won't hesitate to raise rates as high as it takes to squash inflation, no matter how long it takes. Sounds like a case of "good luck with that"...
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Old 01-21-2008, 08:18 AM   #18
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Thanks for the welcome Nords, it appears from your comment on “bitter/learning”, and a quick ER search, that you wisely purchased the PFCU CDs and possibly some NCFU also. Those seem like absolute steals but I take it from the comment on the bowl shaped yield curve that you suspect Fed rates to go lower and CDs as a result.


Also, thanks for the Bernstein/others approach of 10-20% even in a conservative portfolio and also the Wellesley so beloved by many. That is one option I am considering at it's current attractive NAV.


The CD laddering choice is based on the fact that all the money is currently cash, and she makes it very clear that she prefers having a hands off income producer. Current market conditions don't play in at all, just simply that she prefers to just cash the checks and live. She prefers her energies go into her clothing/jewelery design and involvement in “causes” as I call them. Very much an artist and activist with no interest in financial matters. Needs a hands off portfolio badly.


But am I correct in the Fed rate comment? Because I wonder the same myself and thus my comment earlier that now might be the LAST, best chance (for several years) to do a CD ladder with the current near penurious rates.


With current sentiment ranging from market correction to slowing economy to recession and maybe worse, I feel an urgency (somewhat) to build her the CD ladder. For several reasons, I may not be in a position to build her a portfolio in the future. Which would probably mean she would have to rely on a CFA, and if I build her anything with even straightforward issues like the effect of yield curve and bond return rate vs yield to maturity, she'd likely head straight to a CFA.


I agree that we may indeed see an inverted bowl or maybe an inverted flat bottom wok. My suspicion is that in 3-4 years the ordinate of the yield graph will read near 2% for nearly 90% of the abscissa. I saw a great article with an evaluation of Greenspan's performance over his last 10 years and Benacke's initial performance and my confidence in the Fed suffered. Basically we all know now that Greenspan was way too late in lowering the rates and too cautious when he did, then Bernacke's testosterone would not allow him to seem weak so he raised them back too soon. Now he is back pedaling and hopefully he has a reverse gear on that bike.


These are exactly the reasons why a lady inclined to be in Arles at a Cafe Terrace at Night, should not be in a Yellow Room pouring over financial doom and gloom articles.


CDs seem like the most straightforward approach and my spreadsheets show that she would have $1,300,000 left at 92 years old.


BTW, the spreadsheet pertinents.
Expense column begins at $65k and inflation is added in random 5-7% for first 10 years, then random 3-10% thereafter.
Each 3,5, 7yr, etc, CD is given in 2 columns with principal in one and yield in the other. Interest is taken first to supply expense needs and eventually the CDs are cashed incrementally and principal is taken as expenses inflate above interest only. Drawing down first the 3yr, then the 5yr, etc.



***The IRA portfolio is drawn from lightly (2%) in the first 15 years to supplement. It grows to $2.5mil, then declining and at 92 years is worth $1.3 million.




Note, the CD numbers used are “real” CDs that Fidelity sells in their new issue offerings. And the math is trivial so the numbers associated with income stream calculations are correct (checked by two friends).


And several runs using differing random inflation numbers have all produced 100% success.


So it really comes down to 3 or 4 issues.
  1. Will, as Nords comments, she panic as her principal disappears?
  2. Will, as CFB comments, there be a need for unforeseen medical support?
  3. Will, as we all fear, there be rampant inflation that wipes out an fixed income scheme?
  4. Will, as Nords comments, the yield curve be such that CDs become less attractive to “rollover” as they mature?

Upcoming “Bucket List” events are my reason for urgency in getting this done.
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Old 01-21-2008, 08:59 AM   #19
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Quote:
Originally Posted by Puppy Belly View Post

The CD laddering choice is based on the fact that all the money is currently cash, and she makes it very clear that she prefers having a hands off income producer. Current market conditions don't play in at all, just simply that she prefers to just cash the checks and live. She prefers her energies go into her clothing/jewelery design and involvement in “causes” as I call them. Very much an artist and activist with no interest in financial matters. Needs a hands off portfolio badly.

Most of the post was pure speculation. Where the fed goes with rates, guessing at inflation etc...

The portion I quoted above is the only thing you really have control over. Education or ignorance. If your wife was that "hands off" and you died, she might be prone to buying an annuity.

Here's some suggestions- with 2 M in assets, have you considered a 100% dividend portfolio? 3% of 2 M is $60,000. If dividends are the only source of income, your effective tax rate will be quite low.

Realizing that half the assets are in an IRA, This suggestion might need to get tweaked. It has been proven over time that dividends tend to outpace inflation (meaning dividends increase over time).

You could easily set up the accounts to direct dividends to a checking account (instead of reinvesting them). Dividend funds are usually considered conservative as well on the equity side.

I might suggest you put the taxable account into dividend paying stocks (generates 30k per year in income). If you used a fund like PRFDX, you would get $7500 every quarter deposited (assuming a 3% yield), plus a capital gains distribution once per year in December.

I would then put the IRA monies in bonds or something similar. I am partial to RPSIX (T Rowe Spectrum Income). Also consider if the IRA appreciates, there ar RMDs to concern yourself with. My suggestion is to cap out tax bracket by converting IRA to a Roth, and within 10-15 years I would expect the IRA bucket to be tax free.

**please note the two funds I recomended PRFDX and RPSIX are funds I own now in my IRA accounts**

If you needed slightly more income from the taxable account, consider 90% PRFDX and 10% ADVDX. ADVDX is alpine Dynamic Dividend. It has a much higher yield than typical equity income funds. It takes on more risk to do it. If dividend income is he goal, I would not concern portfolio with stability of principal, provided underlying funds were solid choices.
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Old 01-21-2008, 09:09 AM   #20
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I like CD's. But I get higher rates here in my Euro bank than I can get in my US bank. Current rates here start at 4.90% for a 1 week CD (known as a Term Deposit in Europe) up to 5.50% for a 3 year. No brainer.

Current rates at my US bank are only 3-4%. No thanks.

But this thread was very helpful as I never thought about setting up a ladder system with my CD's. So thanks for starting it.
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