Asset Allocation

[Merron]

If I have an annuity, indexed to inflation, paying $2000 per month ( Social Security + Pension ), it's present value would be in the order of 375,000, assuming a 20 year lfe span.

If I am looking to split my portfolio between stocks and bonds, should I consider the $375,000 as a bond and therefore part of the bond allocation? This would of course increase the percentage of the stock portion of the portfolio when just looking at to days assets.

[jojodontno]

hello merron;I was allways told ,any fixed income source should be considered a part of your bond alllcation.s.s,pension, annuities are all part of your income catogory.375000.00 times 4 percent=15000.00 per year.I do not follow your statement of 2000.00 per month?In my humble opinion-we are all confused-help! someone.....anyone?please!

[Ted]

Having a secure, inflation-adjusted income stream is the best financial asset that a retiree can hope for. The best way of estimating its present value would be to compare it to the cost of an immediate annuity that would pay equal benefits. That present value would be similar to a bond, but that's academic because you can't cash it in the way that you could sell a bond.

To determine your preferred asset allocation, go to FIRECalc and enter you $24,000 per year income. Then play around with various combinations of stocks and bond allocations (especially, TIPs) for your other assets. Essentially, you have the desirable choice between a decent inflation-adjusted income stream with practically no risk (by investing your other assets mostly in TIPs), or a more modest inflation-adjusted income stream with a good chance of substantially increasing your net worth (by investing more heavily in stocks). Just don't take the simplistic route of adopting some "standard" asset allocation.

[Merron]

Thank you jojodontno and Ted for your replys.

I have checked with Vanguard and the annuity cost would be $336,000, which is close to what I had esttimated.

Ted, I don't see how to enter income into FIRECalc, as you suggest. Could you elaborate please.

My thought was to add the 336000 to my portfolio and put the total into FIRECalc as the nest egg and include the 336000 into the bond portion as 5 year treasury. The stock portion would then be Nest Egg - Bond Portion.

Looking forward to your replys.

[Bob_Smith]

Hi Merron,

I'm not sure I understand your question, but I'll throw in my two cents. In FIRECalc, there is a box specifically for SS, and the pension can go in one of the "Withdrawal Change" fields. I would put the $24,000 into those two fields. I don't think you'd want to convert the future $2000 per month income streams (SS & pension) to a lump sum and put that in FIRECalc as part of your starting portfolio, if that's what you intended to do. That would likely produce outputs that are way off the mark for several reasons.

Also, I'm not comfortable counting pensions and SS as bonds to justify a much higher stock allocation. I've seen the argument for that and have rejected it for myself. I view my SS and pension as "income", just as I view a paycheck from work. I view my nest egg as "assets" to which I apply an allocation that I'm comfortable with. In other words, I view my SS and pension as pure "income", but I view my assets as an "income generator". I can't really control what happens to my pension or SS; I have much more control over my assets. So I view the nest-egg as an essential stand-alone "income generator" that must produce an income as long as I live, and I treat it accordingly. For me that means about 40% in stocks (US and international) and the rest in bonds, cash, a great amount of TIPS, and a little real estate. My pension and SS will do whatever they will do. My personal assets have no impact upon them, nor do they impact the performance of my assets. So I don't count them when determining an allocation. But maybe that's just me.

[unclemick]

There is also the emotional aspect - the higher % stock - the more fluation in your portfolio. We put SS,pensions, AND my hobby portfolio dividends in FIREcalc as income steams. REmember to use the - for income in the withdrawal fields and the inflation check/not check as appropriate.

[Ted]

Quote:

Ted, I don't see how to enter income into FIRECalc, as you suggest. Could you elaborate please. My thought was to add the 336000 to my portfolio and put the total into FIRECalc as the nest egg and include the 336000 into the bond portion as 5 year treasury. The stock portion would then be Nest Egg - Bond Portion.

You are complicating something that is complicated enough already!

All that you need to do is to enter your social security plus pension income ($24,000 per year) in the box for "social security income." FIRECalc is just a dumb set of equations and doesn't know or care that you are "cheating" by including the two together . (Doing this is valid when your pension benefits are adjusted for inflation, as social security benefits are.)

Then, take the actual market value of your financial assets and try different ways of allocating it to stocks, TIPs, or other fixed income investments in the FIRECalc program to find an asset allocation that makes you comfortable.

Knowing the present value of your social security and pension benefits is interesting and may make you "feel richer" and more inclined to invest in stocks, but the best way to decide how much to invest in stocks is to use FIRECalc.

My apologies to Dory36 for insulting his brainchild :-/

[Bob_Smith]

Quote:

All that you need to do is to enter your social security plus pension income ($24,000 per year) in the box for "social security income." *FIRECalc is just a dumb set of equations and doesn't know or care that you are "cheating" by including the two together *. *(Doing this is valid when your pension benefits are adjusted for inflation, as social security benefits are.):-/

Correct - but only if both SS and the pension start at the same age. Usually they don't.

[ats5g]

Bob,

If your pension and SS start at different times, you can enter the pension payments as a negative yearly amount in one of the "Withdrawal Change" areas.

- Alec

[Bob_Smith]

Hi Alec,

Right. I must put my pension in the field you mention because it begins seven years prior to SS. Plus my pension isn't indexed to inflation - another reason I must use the separate field.