Safe margin of 2.5x to 3x income, 100% long bond portfolio, built in inflation offset

[Quantum Sufficit]

Hello all,

It has been many months since I posted here. I am closing in on FIRE --15 OR SO months- Nov/dec 2015)

I think one's approach to retirement planning (like Wade Pfau recently said) has almost exclusively to do with luck. What befalls your retirement If you end up with the sequence of returns turning against you like a 1966 scenario in the market and it takes 18 years for the market to get back to even . See the graph below demonstrating the large secular bears. Or as another example, maybe Japan style deflation with the Nikkei still nowhere near its peak. It seems everyone fears a rise in rates. What will happens if we enter a secular bear market lasting 289 months (24 years!!!)? Of course we could also be on the cusp of a secular bull, who really knows? I am not going to leave my retirement to chance. I would appreciate a critique of the approach. I am aware of Firecalc but I decided, why use random monte carlo style numbers when I can use my own honest to God numbers??

Annual starting expenses in retirement : 3500 per month
House: Paid for (ADDITIONAL INFLATION OFFSET AS 600K VALUE for which a reverse mortgage would be available, no heirs)
Portfolio: 2.4 M, 100% invested in Vanguard Long term Corporate bond fund

Share Count: 226493 paying a dividend of 0.0404 averaged over last 12 months (this exercise assumes a stable dividend as above).

226,493 x 0.0404 = $9150 in dividends per month

Florida 0% state tax, mainly 15%( about $13470) fed allowing for standard deduction on wife and I

Leaves me with about 8000 per month after taxes. To this sum I have the option in SOME months of living quite well given my expenses or folding about 4500/month back into the portfolio for an inflation offset. That 3500 of expenses monthly includes a 250/month house maintenance (brand new house) and 500/month unexpected fund.

I will also have 3000 per month in PART TIME INCOME and 1000/month stipend for health insurance additionally. However, my retirement, while the numbers would be slimmer would still work without this income, just not as much inflation bump. I did not include the social security projection of about 1500 per month at age 62 plus 1000 per month reverse mortgage at 62 but those are waiting in the wings if I need them. My wife will also have Social security (spousal).


THEREFORE: Potentially 90k can return to the portfolio if I decide just to stick to my budget annually. 90,000 divided by 10.60 current share price x.0404 = 1st year income raise of $4100.00 (about a 10% annual inflation bump, somewhat less if I spend another 3k per month).

Tell me, why do I need the stock market in MY PARTICULAR SCENARIO? I would hard pressed to think of a LIKELY scenario where the fed allows a 10% annual inflation Rate. Also, this is a pure income "spend the dividends only" strategy. I really do not care about the share price, just share count. Each of those shares is a little cog in my income gear. If rates go up (and who said they will--->Japan comes to mind); principle will be "lost" but at least I will spend income generated. This is what is so attractive about this strategy--> None of it depends upon capital appreciation. As John Bogle said-the enemy of a good plan is the dream of the perfect plan.

Is Anyone else on the forum living off the income of bonds exclusively??

 

[RunningBum]

You go back to 1966 to find an extended flat stock period but won't go back to the mid 70s to early 80s to consider double digit inflation? OK, hoping it works for you because I don't want high inflation to return either, but I am hedging against it. There's also no guarantee at all that the dividend per share will stay stable so while you say you only care about the share count, you probably should care about more than that.

 

[dallas27]

Seems to me you have made your decision already and you just needed to let it out to organize your own thoughts.

I wouldn't do if, but you'll be fine, and will never be homeless.


Sent from my iPhone using Early Retirement Forum

 

[brewer12345]

I think this is a terrifying retirement portfolio. Good luck...

 

[ejman]

Most every study I've read would seem to indicate that a withdrawal rate of 1.75% as you are contemplating will work with just about any AA including all bonds based on the past history @ the US. Of course, there are some scenarios that are (fortunately) not in the past history database for the US such as long periods of hyperinflation or massive destruction from war, cataclysm, or political perfidy where your plan would fail as would most others.

Having said that most studies seem to show that the long term portfolio survival sweet spot seems to be somewhere in the 40 to 60% equity range as I'm sure you are aware So why not invest the excess dividends over time into stocks?

 

[RunningBum]

Yeah, in your particular scenario, low expenses compared to your net worth, it should work just fine, but even 20% stock would seem like a very sound hedge. Also, not sure if that fund has some international exposure but I would want that too.

 

[daylatedollarshort]

You might want to read up on owning individual TIPS ladders and and I bonds that can be held to maturity. They are indexed to inflation.

I personally would not choose to put my entire AA in a long term bond fund, but I agree with having low baseline expenses in relation to retirement income, not leaving retirement success to chance and a conservative (but more diversified) portfolio. We only have a small allocation to stocks. Our goal, once the kids are launched, is to live off less than SS + pensions + 0 - 1% real returns. That way our net worth should stay stable or increase in retirement and we don't have to worry about the stock market tanking. We also work part-time but I don't include that in our plan so that money can go to big ticket items, like extra savings or home upgrades.

 

[Quantum Sufficit]

Thanks for the input. I keep trying and trying to stay in the stock market but for Pete's Sake, I keep freaking out. One must know thyself. I figure even If I save 1/2 of the excess (maybe 2500 per month) reinvested that will be good enough. The idea of knowing that by month's end those dividends (provided the corp. bond fund continues to pay a 4-4.5% dividend) will be there at the end of the month...man it just makes me relax. Thanks again and I really love reading this forum. I have learned so much these last 5 years. I am not a prolific poster to be sure, mainly a lurker

 

[Quantum Sufficit]

Hi Daylatedollarshort and all the others- thank you for the replies. I looked into a SPIA at vanguard and it was a joke! They basically gave me about a 4% distribution (after surrendering the principle to them!!!). Nothing on vanguard, it is just the insurance company at issue. I mean, even if my principle is DESSIMATED in a rising rate environment 1) It could come back when rates get cut (and they will again) and 2) At least I did not lose all of the principle!


Wade Pfau whom I have great respect for advocated a SPIA as a portfolio addition for "flooring of income". I just cannot make the case for it, at least what I heard from Vanguard Annuity department. Is My experience typical with SPIAs in this low rate environment?? Why are they giving me exactly what I can earn on my own in treasuries AND KEEPING MY PRINCIPLE? Oh yah, its an insurance company that's why!!
I wish I had a pension. It sure would allow one to be much more aggressive. Even then, no matter how stable a pension seems there is always that teeny weeny thought in the mind...what if something goes wrong and that is eliminated or cut? I think federal pensioners are ok but state and municipality pensioners are always at risk.

 

[Quantum Sufficit]

I think this is a terrifying retirement portfolio. Good luck...

Hi Brewer,

Can you explain why you feel that way? I know it is not conventional but I just think the bear market graph I threw up there looked a lot more terrifying to me!

 

[photoguy]

As John Bogle said-the enemy of a good plan is the dream of the perfect plan.

I don't think John Bogle would consider 100% long term corporate bonds to be a good plan. I believe the simplest portfolio he recommends is a mix of total stock and total bond.

 

[jerome len]

Your plan works, it's safe but the question is whether it's the best.

You'll have a lot of income, especially if you work at $3000 a month. Could you creep up into a higher tax bracket? And, have you looked at muni bonds? I remember the 20% prime rates in the late 70's and early 80's and your bond fund would loose a good deal of its net worth.....the good news is you would get higher interest rates on the lower value of your bond fund.

What would I do? I'd look at your bond fund and compare the after tax income to the income of the Vanguard long term muni fund. I'd put a small portion in a muni balanced fund, paying about 2% a year through interest and dividends, knowing that dividends should income increase most years....bond interest does not. I'd put a small percentage into the Vanguard limited term muni fund.....in case rates do go up and I believe they will and then you can move the money back to long term with a smaller loss in value.

In other words, yes, your plan works BUT you would still have more than enough income and you would be hedged against the losses you would have incurred in the late 70's and early 80's. THIS HAPPENED IN OUR LIFETIME....IT CAN HAPPEN AGAIN.

Congratulations on building a very safe retirement......and, if I were you, I'd also spend a little more on trips, a nicer car, a few nice restaurants each month.....You and your DW have earned it!!!!!

 

[brewer12345]

Hi Brewer,

Can you explain why you feel that way? I know it is not conventional but I just think the bear market graph I threw up there looked a lot more terrifying to me!

Bear markets eventually recover. Inflationary spirals inflict permanent damage that you never recover from. The last time we got into high inflation, gubmint debt was around 100% of GDP. Sound familiar?

You are also exposed if the credit markets get ugly. Diversify and you will have vastly better outcomes.

 

[steelyman]

I agree with brewer12345. The thing to remember is that hopefully you pull your money out as slowly as you put it in.

 

[FANOFJESUS]

Just remember your balance will go down about 14% for every 1% rise in interest rates. Are you ok with that?

 

[dallas27]

Safe margin of 2.5x to 3x income, 100% long bond portfolio, built in inflatio...

Seems to me you have made your decision already and you just needed to let it out to organize your own thoughts.

I wouldn't do it, but you'll be fine, and will never be homeless.


Sent from my iPhone using Early Retirement Forum

 

[Quantum Sufficit]

Just remember your balance will go down about 14% for every 1% rise in interest rates. Are you ok with that?

I am because I would have no need to sell shares.

 

[pb4uski]

....Is Anyone else on the forum living off the income of bonds exclusively??

No. I wouldn't as I think it is suboptimal.

I think you are way overthinking this. Plunk your $2.4m in a conservative balanced fund like Vanguard Wellesley, Target Retirement Income or Life Strategy Income fund or a similar AA using index funds if tax efficiency is important and go enjoy your retirement.

What do the pros at Vanguard Financial Planning recommend that you do?

 

[daylatedollarshort]

Is Anyone else on the forum living off the income of bonds exclusively??

You may want to read some books or sites by Zvi Bodie for a more low return, low risk / won the game stop playing approach than what you will likely hear about from reps at place like Vanguard and Fidelity.

Here is an excerpt from an article by Zvi Bodie and Rachelle Taqqu:

"If you're expecting stocks to outperform, say, 70% of the time, you need to think about how much you stand to lose the other 30% of the time. It does not do you a lot of good to have 20 years of great performance, only to be trounced in a crash just before you retire."

Stocks Are Riskier Than You Think - WSJ

Many here favor a Vanguard type mutual fund approach heavy on equities, but if minimizing your losses is more of a goal than higher potential returns, the Vanguard type recommendations may not be the best fit for your AA.

 

[MooreBonds]

Tax rates can change...but don't forget that you are looking at much higher tax rates on corporate bond interest vs potentially 0% (or at least much lower) taxes on capital gains and qualified dividends. So that $8,000/mo in corporate bond interest will be much less after-taxes, while the same amount in dividends would be much, much more after-tax.

 

[pb4uski]

.....Many here favor a Vanguard type mutual fund approach heavy on equities, but if minimizing your losses is more of a goal than higher potential returns, the Vanguard type recommendations may not be the best fit for your AA.

You think a 30/70 AA is "heavy on equities"? That is the AA of the Retirement Income fund. It declined 18% during the great recession in 2007-2008 and has a 10 year average return of 5.7%.

 

[Elbata]

Here's an article that might relate to your situation.

Not trying to push someone else's blog, but I'd be curious is this is helpful at all. Thanks.

 

[brewer12345]

I think the scariest thing about OP's proposed portfolio is the lack of diversification into an asset class with specific and potentially severe risks. If you wanted to construct a low risk portfolio, 100% in long term corporates would absolutely not be the way to do it.

I manage a portfolio for my FIL. He has other accounts which are more equity heavy and he has a relatively low capacity for taking risk. That said, returns greater than what CDs offer are required. The portfolio has fluctuated over the last decade or so I have managed it, but equity exposures have always been modest (typically 20% or less) and usually are in a specialty area that presents an opportunity. The challenge is to find other places to put the money that are not equities and still have return. At one point, commodity futures were an attractive option. At another point junk bonds were a good buy. I usually keep a big slug of merger arbitrage funds as they are generally low volatility and return something like T bills plus 3 to 5% over time. Sometimes sitting in cash is the place to be. It pays to be nimble and when an asset class gets overvalued it is time to move on.

 

[daylatedollarshort]

You think a 30/70 AA is "heavy on equities"? That is the AA of the Retirement Income fund. It declined 18% during the great recession in 2007-2008 and has a 10 year average return of 5.7%.

I did not see where I commented specifically on a 30/70 retirement income fund or even referred to any of your posts in this thread.

I am bringing up the Zvi Bodie alternative type thinking to the OP to consider. If the Vanguard / Fidelity mutual funds approach to retirement works for you that is great. It seems like the OP is looking for an alternative type of AA.

Bill Bernstein has been advocating an approach similar to Zvi Bodie recently:

http://whitecoatinvestor.com/bernstein-says-stop-when-you-win-the-game/?print=pdf

 

[pb4uski]

I did not see where I commented specifically on a 30/70 retirement income fund or even referred to any of your posts in this thread. ...

So I guess it was just a coincidence that I suggested a few Vanguard funds to the OP and asked the OP what the Vanguard financial planning folks had suggested and then in the very next post you were dissing Vanguard.