Looking for suggestions

[lookindum]

I have been reading the forum for a while and am looking for suggestions from members.

My situation is as follows:

My wife and I live in small town USA in Central IL.  I “retired”, quit work, in April of 2003 at age of 58.  I had a minor health issue, plus couldn’t handle the rat race any longer.  Probably reason #1 of top ten reasons to retire early. 

Since then, I have sold personal stock to live on and invested the rest.  The small company I worked for never traded its stock publicly and once a person leaves the company, you are required to sell the stock back to the company.  My wife and I have no children living at home.  No mortgage, no car payments (we have four?), no CC debt.  Wife does not work.  I am self employed as much as I want to be (about 8-10K per year).  I pay our health insurance (1K per month).  We figure it costs about 50K per year to maintain our present life style.  Major expenses are: RE Taxes-6K per year, Health Insurance-12K per year.


As of present date:
250K in CD’s, interest is withdrawn
55K in muni bonds maturing in 2035 to 2041
110K in T-bills and notes, some 5 yr TIPS
125K in IRA, no distributions yet
Small fixed annuity will pay 10K per year beginning 2007
Eligible for SS in 2007

In 2006, I have 1.1M in an ESOP account that I will roll to an IRA.  I have not been convinced by the financial planners I have spoken with to let them handle my money for the 200-250 basis points of gross they charge each year.  I moved all my 401K funds out of the stock market just before the big bust (had an uneasy feeling when Clinton announced the gov was going after Bill Gates) and haven’t had the courage to reenter the stock market.  I have been pondering the idea to place the entire amount in CD’s and withdraw the minimum I need each year (40-50K).  Any additional money I have will be invested in T-bills.

 

[wabmester]

I sense a fear of volatility.   That's natural.   You've worked 30+ years for your nest egg, and you don't want to see any of it evaporate.

And I sense a fear of financial planners.   That is a healthy fear, especially if they want 2% of your assets.

But I don't sense a fear of inflation.   You should be more afraid of inflation and take action to hedge against it.

You have more than you need to provide for your expenses if you invest it reasonably.    If you think you need $50K on top of your pension, SS, and earned income, then history says that a nest egg size of $1.25M invested in a mix of stocks and bonds should let you do that for as long as you like.

That means that you could give me 20% of your nest egg, and still get the income you want.

So, here are some things to ponder:

1) The investments you've listed have a range of "real" returns of about -1% to +1%.     In other words, inflation will slowly but surely erode your purchasing power even if you withdraw $0, and withdrawing 3-4% (with adjustments for inflation) will deplete it pretty quickly. If you're sure that you won't live for more than 20 years, you'll probably be OK with this approach.

2) You have a 20% cushion.   That means that you can afford to take on some risk.    The only way to get higher returns is to accept some volatility and ride out the rough spots.

3) You can diversify away a lot of volatility by investing in assets that don't move together.   This is the only free lunch you get, so don't pass it up.

4) Keep your fees low.   Avoid financial planners.   Read about index funds.

 

[Brat]

Take a look at Vanguard's "in retirement" mutual fund.  As long as you are at that site take their fund selector for a spin.

Also, go to www.fundalarm.com and take a look at their no-alarm balanced funds.

Wabmester's thoughts are worth your consideration.

 

[unclemick]

Yawn

Put your rollover into Vanguard Target Retirement - Income if market fluctuation makes you too nervous. Slowly get rid of your other junk - in the most tax beneficial manner possible.

Most people only need one fund - most ignore that fact(including me).

The urge to dink around and putz is overwhelming. If I had C-T passion for fishing or some other all consuming retirement interest - maybe I'd have just one also.

Hmmm viewed that way:

75% Vanguard Lifestrategy + 25% putz and dink around stuff.

Heh, heh, heh, heh. ok, ok - sooo - at least I know I'm incurable. Maybe I'll switch to Target Retirement by age 70.

 

[wildcat]

From previous threads covering similar allocation ideas I believe the majority of people would suggest some equity exposure.  You may be okay now but a spike in inflation will erode your portfolio.  CDs will not protect you.  If the market scares you take baby steps and DCA into some low cost funds, i.e. Vanguard.  Slowly build some exposure to a level you are comfortable with or as UM2 suggested put it in a fund that will allocate/rebalance for you if you don't want to do the work on your own.

 

[wabmester]

You know, you could probably get by fine in this instance without any stocks if you really hate volatility.

You're 60 years old, and a couple of years away from social security. You have $1.6M. If you live to age 95, that means a 35 year withdrawal term.

$1.6M/35 = $45,000/year. So, all you have to do is ensure that you stay ahead of inflation. A 100% TIPS portfolio might not be crazy for somebody in your position. Long-term TIPS will give you 2% above CPI-U, so even if your personal inflation rate is a bit above CPI-U, your portfolio will still survive.

You still might want some diversification, including some stock exposure, but you're in a position to be very conservative if you want to be.

 

[wildcat]

You still might want some diversification, including some stock exposure, but you're in a position to be very conservative if you want to be.

Income from equities never hurts, perhaps Vanguard Equity Income or Dividend Growth Fund for a some exposure.

 

[maddythebeagle]

I also ran this through my spreadsheet and your portfolio will run out in your early to mid 90s as wab said. It also looks like you have an annuity and ss coming. I read about a lot of Canadians using only fixed income through retirement, but I also see some of those folks more with pensions to add to their income. Another option, would be to spend less, it looks like the 12k in insurance will be gone when you get to medicare (I dont know how much plan b costs). I still think you should add stock OR SOME OTHER TYPE OF INVESTMENT INSTRUMENTS THAT WILL BEAT INFLATION (RE, BASEBALL CARDS, COMIC BOOKS, COINS, CIVIL WAR COLLECTIBLES, ETC.) as an investment to compound some of your money since you may be around for awhile.

 

[Mr._johngalt]

I also ran this through my spreadsheet and your portfolio will run out in your early to mid 90s as wab said. It also looks like you have an annuity and ss coming. I read about a lot of Canadians using only fixed income through retirement, but I also see some of those folks more with pensions to add to their income. Another option, would be to spend less, it looks like the 12k in insurance will be gone when you get to medicare (I dont know how much plan b costs). I still think you should add stock as an investment to compound some of your money since you may be around for awhile.

I understand history (probably better than most people) but I am still
surprised when people present equities (stock) investment as a slam dunk.
They can go down and stay down, no matter what your time horizon.
It's a fact folks.

JG

 

[Mr._johngalt]

  CDs will not protect you. 

But real estate will (maybe)
Equities? We don't need no stiiiiiiinkin equities.

JG

 

[Mr._johngalt]

I wouldn't change much of anything, except maybe get out of Illinois

JG

 

[lookindum]

Thank you for the suggestions. I still have some time to make decisions. Unfortunately, leaving Illinois (with my wife) can not be one of them. Fortunately, I live far away from Chicago.

 

[gindie]

In 2006, I have 1.1M in an ESOP account that I will roll to an IRA. 

Before doing this, you might want to check out an article at:  http://www.fpanet.org/journal/articles/2004_Issues/jfp0204-art7.cfm

Company stock has special (favorable) treatment under retirement distribution rules that can negated if you roll into an IRA.

Quoting from the article: 

Under the NUA strategy, employees take a lump-sum distribution of company stock from their retirement plan (upon separation from service) and pay ordinary income taxes on the stock’s basis. But the difference between the basis and the fair market value—the net unrealized appreciation—is taxed at long-term capital gains rates only when the stock is sold, regardless of the holding period. This can be a better option than rolling the stock into an IRA where all of its value will eventually be taxed as ordinary income.

 

[Brat]

[quotel]ookindum on August 20, 2005, 11:01:48 AM
In 2006, I have 1.1M in an ESOP account that I will roll to an IRA.

Lookindum, you ABSOLUTELY need to consult with a CPA who has a specialty in taxes before you do that.

 

[Nords]

I have been reading the forum for a while and am looking for suggestions from members.

My wife and I live in small town USA in Central IL.  I “retired”, quit work, in April of 2003 at age of 58.  I had a minor health issue, plus couldn’t handle the rat race any longer.  Probably reason #1 of top ten reasons to retire early. 

In 2006, I have 1.1M in an ESOP account that I will roll to an IRA.  I have not been convinced by the financial planners I have spoken with to let them handle my money for the 200-250 basis points of gross they charge each year.  I moved all my 401K funds out of the stock market just before the big bust (had an uneasy feeling when Clinton announced the gov was going after Bill Gates) and haven’t had the courage to reenter the stock market.  I have been pondering the idea to place the entire amount in CD’s and withdraw the minimum I need each year (40-50K).  Any additional money I have will be invested in T-bills.

Welcome to the board, Lookindum. I hope your investment strategy doesn't end up looking that way.

If you've been watching the board for a while then I hope you've read a library copy of Bernstein's Four Pillars or at least looked at the articles on his website. Equity volatility is no fun but it beats the inflation alternative. If you don't want to put up with volatility then I highly recommend a fund like Vanguard's Wellesley or some other bond/dividend-heavy equivalent. CDs & TIPS does not equate to diversification.

You mention health problems and you're already paying $1K/month healthcare premiums. Your portfolio is of a size that conventional wisdom recommends long-term care insurance. Have you factored rising healthcare expenses and LTC expense into your ER budget? Although recent studies have generated a lot of smoke & noise about declining spending late in ER, you're unlikely to experience that situation.

There may be a number of tax dodges that you can execute with your company stock and your ESOP. I agree that you're saving a lot by not giving it to financial managers. Take some of that savings and spend it on a good CPA who can help you figure out the most tax-efficient scheme to put it into an IRA. At a minimum I'd recommend asking one of the CPAs (Bruce Steiner, Mary Kay Foss, Denise Appleby) on Ed Slott's IRA Help forum.

You know, you could probably get by fine in this instance without any stocks if you really hate volatility.

You're 60 years old, and a couple of years away from social security. You have $1.6M. If you live to age 95, that means a 35 year withdrawal term.

So, all you have to do is ensure that you stay ahead of inflation. A 100% TIPS portfolio might not be crazy for somebody in your position. Long-term TIPS will give you 2% above CPI-U, so even if your personal inflation rate is a bit above CPI-U, your portfolio will still survive.

There's "conservative" and then there's "hoarding gold, shotgun shells, & MREs in a fallout shelter". Even if we could agree on how much CPI-U understates actual inflation, it's still too easy for even TIPS to lose out to one's personal inflation rate. I'm reminded of the Dominguez situation from the 2004 real-life returns article: "Dominguez managed this loss of spending power with unusual living arrangements (he lived in a group home with about 30 other people) and a lot of composting and the washing and reusing of tin foil and wax paper -- a strategy that few early retirees would tolerate." Admittedly Joe stuck with Treasuries and we're talking TIPS, but the result is the same-- avoiding volatility by abdicating from the stock market without sufficient inflation protection & diversification. Too much volatility can be a bad thing (I wouldn't know) but too little volatility is just as dangerous.

Consider the whole picture before you flee to the "safety" of a bond/CD portfolio. I watched my wife's parents go through the last six years of record-low interest rates with a similar portfolio and they were not happy, even though inflation was also at a record low. Other ERs may not own stocks in their retirement portfolios, but their flip comments fail to mention that they're heavily invested in junk bonds & real estate to offer some inflation-fighting strategy. Listen to the recommendations to add equities, even if it's just through Vanguard's equity-income funds.

 

[wabmester]

I watched my wife's parents go through the last six years of record-low interest rates with a similar portfolio and they were not happy....

You've said that before, and I find it a strange statement.   Bonds have outperformed stocks over the last six years, and TIPS have done better than most bonds.

Here's a chart of Vanguard's TIPS fund vs their S&P500 fund for the last 5 years:

 

[Nords]

You've said that before, and I find it a strange statement.

Perhaps your lack of recognition results from equating an emotional state with a logical discussion.  Spock wouldn't last 10 minutes in my FIL's house but it would be a very entertaining time for the spectators.

Financially they got through the last six years just fine.  I don't know if my FIL was invested in TIPS or if he stuck to I bonds & CDs.  There were a few GICs floating around (I think they were all from PBHG and were quickly sold after the scandals) and a humongous (at the time) 7% CU CD bought with the proceeds from the sale of their home.  I remember that he used to invest $100K "testosterone putzing" money in a variety of equity funds and at the end of the year he'd sweep the profits into his retirement account and restart the project at $100K.  He was thrilled with the results in the 1990s but he canceled the whole project when he lost a few % in 2002 and dumped the >$90K into an I bond. He only recently restarted with index funds and I can see now how much of my upcoming cruise "leisure" time will be spent.

Emotionally they were devastated.  In their "traditional" 1950s gender roles my FIL makes all the "important" decisions ("We invest here!") and my MIL executes the strategy.  ("Fill these forms out...")  Rolling the 7% CD over at market rates (something like 2% at the time) was a multi-month trauma relived many times both before & after (it's family story #429).  As interest rates plummeted and investments matured, watching the dividends sink below the expenses (resulting in the inevitable consumption of principle) was a huge mental block that resulted in many spouse harangues without resolution:  "We're paying SIXTY DOLLARS A MONTH for electricity?!!?!  Why I remember when..."  Somehow MIL became a lightning rod for her execution of his strategy because she insisted on wasting their valuable financial resources on frivolities like food & utilities while the whole world was falling apart.

Luckily (for them) their emotional devastation found a ready outlet in us "crazy kids".  We received much random fallout over the state of the stock market, those bastaaads at Enron & Worldcom, and interminable arguing over home improvement projects.  I can't even begin to rationally consider the number of man-hours we spent discussing & justifying a kitchen renovation that was accomplished at $5K instead of $20K by our innovative project management.  Our MIL is hugely grateful at upgrading a 25-year-old kitchen with refaced cabinets and a nice Formica counter.  My FIL still can't get over how much of our own money we wasted on a place that just needs constant cleaning.  We literally waited until they were on a six-week Mainland trip before we sneaked into the house and executed the plan (MIL was an unindicted co-conspirator). 

My point is that lack of diversification sets an investor up for all sorts of unpleasant "This time it's really different" surprises.  With proper diversification I don't have to give a rat's ass whether bonds have outperformed stocks in the last five years or the last five hundred.  I just have to rebalance occasionally and be thankful that something is doing well among all the falling pieces of the sky. 

While an all-TIPS portfolio may well work for Lookindum in the next 20 years, it may be a painful experience for anyone who has to live with him.  I'd suggest that he point all his local relatives to a board such as this where they can seek solace when he begins to feel the inevitable constriction of inflation tighten around his jugular.  Or I can hook him up with my FIL!

BTW our net worth has risen 101% over the period in your graph and our retirement portfolio (no real estate) is up 119%.  Some of that was fueled by my final two years of salary/savings but the majority of it came from owning equities.  I doubt I can say the same for my FIL/MIL.

 

[wabmester]

BTW our net worth has risen 101% over the period in your graph and our retirement portfolio (no real estate) is up 119%.  Some of that was fueled by my final two years of salary/savings but the majority of it came from owning equities.  I doubt I can say the same for my FIL/MIL.

That's pretty good.  I can't find a site that gives me graphs with reinvested dividends, but the TIPS fund with dividends is actually up about 60% over five years.   That annualizes to about 10%/year.   To double your money over 5 years, you'd need about 15%/year returns, and very few stock funds have done that well over the last five years.   Not even 100% port of small cap value would have given you that.   How'd you do it?

 

[Nords]

That's pretty good. I can't find a site that gives me graphs with reinvested dividends, but the TIPS fund with dividends is actually up about 60% over five years. That annualizes to about 10%/year. To double your money over 5 years, you'd need about 15%/year returns, and very few stock funds have done that well over the last five years. Not even 100% port of small cap value would have given you that. How'd you do it?

I've said it before: No one ever complains about upward volatility!

About five percent of that return was additional contributions (savings from salary) from Aug 2000 (the start of your graph) to my retirement (June 2002). Since they were being made at a time when the market was in the toilet, I suspect their end contribution was probably magnified and might account for as much as 15% of the result (tripling).

In the retirement portfolio, most of it was research, market timing, & leverage. (Dividends probably play a minor role but we were late to recognize those advantages.) The portfolio's gains included things like selling our long-term Heartland Value (HRTVX) IRAs in early 2002 (very near the top but they really annoyed the heck out of us) and buying Tweedy, Browne Global Value (TBGVX) at share prices of $15-$18 (it's at $25.40 today). Chalk that up to happy luck, although HRTVX came roaring back in 2003-4. It also includes selling off our last Fidelity mutual funds (Puritan & Equity-Income) in July 2002 & Feb 2003 to buy about half our Berkshire Hathaway shares at $2045-$2213 (it's at $2830 today.) And in early 2003 we started scaling a 35% cash position back into the S&P600/Barra Small-Cap Value ETF (IJS) at split-adjusted prices between $35-$50 (it's at $62.90 today). Tight sell-stops and a buttload of frustrating timing helped us sidestep the worst of it. We scored similar successes with defense stocks in 2003 (as Iraq was invaded), media stuff (4Kids Entertainment, the company that distributed Poke'mon films & shows), Apple Computer & Bank of Hawaii (big turnarounds starting in 2001) and a dozen others. Those were smaller parts of the portfolio and probably never totaled more than 20% initially but their gains were outsized as they all doubled & some tripled.

I repeatedly thought the NASDAQ QQQs were a screamin' good deal at $60, $45, $33, $25, & $20. Luckily we kept tight sell stops and our prescience was finally rewarded in late 2002. Spouse is still trying to forgive me for that one.

Speaking of volatility I'll point out that on the day the market reopened after 9/11, our retirement portfolio finished a plunge of about 40% from its 1999 peak. Our big move on 17 Sep was buying Disney at $17.69 (that day is seared into my cerebral cortex) and selling at $24.

Even more than the retirement portfolio, our net worth gains don't show the whole picture. For example the Hawaii RE market bottomed between April-Aug 2000 when our first home was worth about what we paid for it in 1989 (minus $20K of landscaping, a $20K shake roof, and another $15K in home improvements). Five years ago this week we closed on our current home, which at the time was a great location in horrible shape. (Now it's a fantastic location in acceptable shape.) Your chart coincidentally starts at the bottom of the pit and we'll never time the market that well again. Both of those properties have more than doubled in value because we bought at significant market discounts and we worked our sweat-equity ass(et)s off.

In addition to those RE & stock equity gains, in early 2000 we were mortgage-free. Since then we're carrying mortgages of about 20% of our net worth. Aggressive refinancing and steady payments have reduced the mortgage principle & interest while the funds have been invested in the IJS ETF.

So those gains have resulted pretty much from what you'd expect-- a decline before the measuring period began (especially in our first home), a lot of research, some mortgage/margin leverage, cojones in a bear market, a humongous toleration of volatility, and a healthy dose of dumb luck. (The more research I do, the luckier I get.) It's more risk than most would care to assume but it's backed by a lot of work and by the comfort of a govt-funded pension that will continue to buy groceries during my "temporary" lapses of investor brilliance.

FIL's other kid, my brother-in-law the CPA, has done at least as well as we have-- although I suspect his gains have been muted by a blackjack system that he's been working on. He also nailed the snot out of trading junk-bond funds in 2002-2003. But he and a childhood friend have spent 20 years of Sunday-morning coffee with stock reports & investment clubs, and in early 2003 they were so busy buying that they hardly had time to drink the coffee.

The contrast is that my FIL sat through 2000-2005 in fixed-income investments and, although a lot of emotion was hurled at the symptoms, took little action to diversify at a time when stocks were having a fire sale. While our only diversification was equities & real estate, IMO he had very little diversification to fall back on. It avoided volatility but inflation became a concern very near & dear to their hearts, and hopefully Lookindum chooses a middle path between these two extremes...

 

[wabmester]

Wow. Thanks, Nords. I think the message to the OP is clear now.

You could have worked your butt off during retirement, had near-perfect market timing, used the equity in your home to leverage your stock bets, and rode out mind-numbing volatility. That would have given you 15%/year for the last 5 years.

Or you could have invested in TIPS for 10%/year and relaxed.

FWIW, I don't think TIPS will continue to return 10%/year. Your long-term expected returns should be about 2% above CPI-U. You'll get low volatilty, preservation of capital, and predictable income. Things I enjoy having during retirement.

 

[Nords]

Wow.  Thanks, Nords.   I think the message to the OP is clear now.

You could have worked your butt off during retirement, had near-perfect market timing, used the equity in your home to leverage your stock bets, and rode out mind-numbing volatility.   That would have given you 15%/year for the last 5 years.

Or you could have invested in TIPS for 10%/year and relaxed.

Hey, Wab, I gave you a detailed answer because I hate the guys who say "I made a gazillion bucks by simply buying low & selling high, burying my mistakes, and making it look easy by never divulging the details." I'm trying to be one of those guys (the buy low/sell high part) but I'm not there yet. I do it because I enjoy the challenge and I'm not trying to tell Lookindum that he should do it. I don't appreciate the words being put into my mouth by your flip answer.

FWIW, I don't think TIPS will continue to return 10%/year. Your long-term expected returns should be about 2% above CPI-U. You'll get low volatilty, preservation of capital, and predictable income.

You have an ingenuous faith in TIPS beating one's personal inflation and your stated advantages are misleading. It's true that TIPS will deliver all of the things you mention, but I doubt that Lookindum will be able to stay ahead of REAL inflation, let alone support a safe withdrawal rate. (And I wonder if those TIPS returns include having to pay taxes on the phantom income. Ours are after taxes.) That 100% TIPS portfolio has been mentioned several times on this & other forums, and even the Vanguard Diehards acknowledge that it just doesn't keep up with erosion, I mean inflation. I think you do a disservice by presenting it as a panacea, especially when it doesn't address the very real danger of inflationary healthcare costs.

 

[Mr._johngalt]

Consider the whole picture before you flee to the "safety" of a bond/CD portfolio.  I watched my wife's parents go through the last six years of record-low interest rates with a similar portfolio and they were not happy, even though inflation was also at a record low.  Other ERs may not own stocks in their retirement portfolios, but their flip comments fail to mention that they're heavily invested in junk bonds & real estate to offer some inflation-fighting strategy.  Listen to the recommendations to add equities, even if it's just through Vanguard's equity-income funds.

I'll be honest (always am). You take away junk bonds and real estate
and we have nothing.

JG

 

[wabmester]

I don't appreciate the words being put into my mouth by your flip answer.

I thought it was a fair summary. You got excellent market-beating returns by working hard at it, had lucky timing, and leveraged your investments by borrowing against your home equity. Which words did I put in your mouth?

You have an ingenuous faith in TIPS beating one's personal inflation and your stated advantages are misleading.

Oh, that again. Would somebody here *puhlease* post their personal rates of inflation so we can put this one to rest. I don't use quicken, so it's difficult for me to nail this one down. I can only make a SWAG. My biggest expense is housing. Fixed-rate mortgages are immune to inflation (if fact, my payments have gone down as the result of refis). Rents have gone down too.

My health insurance has gone up, but it's a relatively small fraction of my expenses, and I have actually kept the payments pretty flat by changing my coverage types (yes, CPI-style substitution).

I haven't noticed a big increase in food costs. Gas costs have gone up, but energy and other utilities remains pretty cheap.

Bottom-line: the CPI-U seems to cover my personal inflation rate. Anybody here for whom that is not true?

 

[wildcat]

Wab -

How do you cover healthcare?

 

[wabmester]

BTW, I guess I should explicitly counter Nords' accusation that I'm presenting TIPS as a panacea.

Everybody has their own ideas about risk.    The older you are, and the more money you have, the fewer risks you need to take.    There are even some people who are old enough and rich enough that they can stick their entire net worth under the mattress with no risk of exhausting their financial resources.

The stock market goes in cycles.   We had a nice 20-year bull cycle recently.   If you're 60 years old and thinking about a large equity position, you've got to ask yourself if you'd be able to ride out an equal but opposite 20-year bear cycle.

Stocks are not a panacea.