Go with TIPs or am I crazy?

[robert]

ESRBob, you've stated one side of this debate as well as any -- and I believe you've made some good points. However, there is another point of view.

The last thing I want to worry about when I retire is that my nestegg might implode due to a meltdown in the market -- something many commentators seem to think is quite possible. I believe a lot of retirees are similar to myself, i.e., they would opt for peace of mind over a higher rate of return.

I'm planning on retiring in about 18 months with a nestegg of roughly $1M in relatively liquid assets. About three years after I retire, I will be eligible for a modest pension of about $17k/year, and I am eligible for social security after that (say, another $10-12k/year). My wife and I are satisfied with a simple lifestyle and have always lived below our means. Neither of us would be characterized as "risk-takers."

Against this backdrop, we are seriously considering Mister Bill's game plan, i.e., putting a high percentage of our assets into TIPS. We can withdraw $25k/per year (adjusted for inflation) from our nestegg for 50 years. Why put our nestegg at risk in the market when TIPS will do the job AND allow us to enjoy a good night's sleep. Granted, even TIPS carry some risk, but if the U.S. Government defaults, I think we might all have something bigger than our nesteggs to worry about.

ZamaGuy

 

[Nords]

I'm planning on retiring in about 18 months with a nestegg of roughly $1M in relatively liquid assets... we are seriously considering Mister Bill's game plan, i.e., putting a high percentage of our assets into TIPS.

Welcome to the board, Mr. Bill & Robert. You're not necessarily crazy, but you're not acting rationally. Emotionally & overly concerned about sleeping at night, yes, but not rationally.

My FIL did a 100% bonds/CDs retirement in 1994, which seemed like a great game plan when your average long-term CD was paying 7% and EEs floated off Treasuries. Life was good.

Then the stock market imploded, interest rates fell, and pffffft went their cash flow. Of course a co-worker was 100% invested in NASDAQ stocks and was completely wiped out of his lump-sum pension, which only heightened the in-law's sense of paranoia. ("We're not gonna end up like him!" Corollary: No matter how painfully we have to adjust our lifestyle.)

They went to RED ALERT and started cutting spending to avoid invading principle. The first sign of trouble was when the annual gifting stopped. (No problem, fine by us.) Then we noticed the frantic pursuit of yield, any yield-- convertibles, junk, TIPS, ING, Emigrant, you name it. Luckily they're also extremely risk-averse, which kept them from "throwing good money after bad." (They didn't understand how well junk was really doing until long after the party ended.) I think they hit bottom with a GIC (3%) from PBHG. When PBHG amended the GIC's prospectus my FIL became convinced they were going to break the buck so he bailed despite the 2% early-redemption fee. (2% charges on a 3% investment will not support a SWR.) Vacations shrank from multi-month ramblings to two-week bargain-basement packages after five-hour Internet searches. They started growing veggies and cutting back on dessert foods. Every purchase was scrutinized. They made Unclemick's "Cheap Bastard" year look like Richie Richs' Victory Tour.

Not only that, but every one of their kid's purchases was subject to the same scrutiny (criticism) amid dire warnings & predictions of imminent disaster. (Imagine how a surfin' 40-something ER son-in-law must look to a risk-averse father-in-law at a time like this. Last year was not a great time to share with my FIL the fact that I lost a bundle shorting KMart. Months of successes became irrelevant alongside a single failure.

The only reason that our lives weren't a living hell is because the submarine force had already established my standard of that environment. They were not fun people to be around between 2000-2004 and they're still waiting for their portfolio to recover. Meanwhile our stock portfolio, among the world's most volatile, recovered two years ago.

My point is that they'd decided that the stock market would eternally suck and they only had one class of investment-- bonds. (Well, two classes including CDs.) They'd even sold their home, admittedly receiving twice the purchase price after 20 years, and they sure were despondent when the home profit's five-year 7% CD matured and had to be renewed at 3%. Whenever bonds had a good day it didn't last long enough for them to enjoy it because they were still well below their 1994 cash flow. When stocks recovered, they were on the sidelines. When interest rates started to rise, they were locked long & wrong. When real estate zoomed, they were renters. When commodities & gold took off, they didn't own any. Every single piece of good news made them feel bad for missing out, and I think the only way to put a smile on my FIL's face would be to have Greenspan raise rates to 7%. Tomorrow.

So please, you guys, do yourself (and all your family, relatives, & friends) a favor. Read Four Pillars, diversify across a few asset classes, and have a silver lining to point at & comfort yourselves no matter what part of the market is going to hell in a handbasket...

 

[eridanus]

VTV? DVY?

Both are pretty overweighted in Financial Services though.

 

[robert]

Nords,

I appreciate the well-intended advice. And, for the most part I tend to agree with it. But, for every rule there are exceptions. It really boils down to whether you can achieve your retirement object without the risk/rewards that equities have to offer.

I am very risk-averse. So, my wife and I have worked long enough and hard enough to build a nestegg that will generate sufficient income to satisfy our modest needs without the necessity of exposing ourselves to the market. Granted, the income that 100% TIPS, or some similar investment, will generate may very well fail to match the return we might experience with a more diversified portfolio. But, it will still satisfy our needs and we will never have to experience the agony of watching our life-savings disappear in some market meltdown.

I would not recommend this approach for everyone. Many retirees really have no alternative but to accept a relatively high level of risk in order to achieve their retirement goals. But, if one can satisfy his needs without the risk, why not?

ZamaGuy

 

[Mr._johngalt]

Hello Nords. That was an excellent post. We are like your in-laws
(Bonds and CDs) except so far it's workin'. I agree with Zamaguy.
If you don't need the risk (equities) why take it? Yes, we are taking some risk with my "junk", but absent defaults the interest checks keep coming. Assuming this continues, I don't see any dipping into principle unless inflation goes crazy. Different strokes, right?

JG

 

[wildcat]

Like I said in response to JWR, let's not get crazy and start stuffing money under the bed or in a hole out back.

http://www.tamasset.com/pdf/assetclass/april05ac2.pdf

Important points from the article:
"But can we expect to predict future market returns
from mathematical models with any real degree of confidence? I
don’t think so. In the Fama/French paper the authors acknowledge
that their favorite models underestimated stock returns by over
50% for a 50-year period!"

"In 1996, Alan Greenspan warned of “irrational exuberance” in stock prices. Stocks went on
to irrationally exuberate another 100% before they peaked. In 2002, Professors Eugene
Fama and Ken French predicted very low future returns for stocks.1 That same year money
manager Robert Arnott and economist Peter Bernstein predicted zero to negative returns
for stocks in the future.2 From April 2003 until the end of last year, stocks rose over 50%.
All of these investment experts used very sophisticated mathematical models to predict
future returns. My point is not that short-term returns “proved them wrong” (they didn’t),
but that long-term stock returns include these unpredictable short-term rallies. Whatever
the future return will be, it will be lower for investors who missed the good times to avoid
the bad times. I suspect that many investors found the experts dire predictions as an excuse
to get out of the market temporarily or to give up on stocks forever. And I think they have
lowered unnecessarily the growth potential of their portfolios as a result."

 

[Mr._johngalt]

A related aside to Nords quite excellent post re. his in-laws
investment choices. My folks have short term CDs only, plus their small
IRAs. (no idea what they are in). Most of their cash is in a non-interest bearing checking account. Of course they do get nice SS
checks. Otherwise, they might as well be burning money in their
front yard.

JG

 

[Mr._johngalt]

One other problem with 100% TIPS -- even if you _could_ keep up with inflation (the real kind, not the hedonic CPI), TIPS would still leave you behind..  Why?  Think about how our standard of living creeps up over time -- people have measured this at something like 1% a year in real increases in standard of living.


It might not be an issue for you, but all around you,a f ew decades from now,  your peers will be eating at nicer restaurants, staying in nicer places etc in what will by that time be the 'normal' retiree lifestyle.  Some of us curmudgeonly types figure we like our lives today and will simply drive a stake in the ground and keep up this exact lifestyle and not worry about keeping abreast of rising norms, but I will go on record that this flies in the face of a lot of what we have come to expect as a human species.  We always seem to want things to get a little better every year.  Your 100% TIPS would not give you that.

One other problem:  all the FIRECalc-type calculators tell you about the chance of avoiding the worst case scenarios etc.  Remember, that in 90% or 80% of the cases, you can expect outcomes better, in some cases far better, than these scrape-by scenarios.  TIPS eliminate the lows, but they also eliminate the highs.  You will never get the outperformance on the upside that any of us with balanced portfolios have a chance (actually a pretty good chance) of getting.  You sold off all your upside for the chance to be guaranteed of not having a portfolio value drop in real terms.  I think you may find you've paid a high price for 'insuring' that last few percentage points of risk.

One last point -- perhaps too wacky for some.  I read an interview today with Pete Peterson, Paul Krugman and one other guy (in Harpers) in which they mentioned that the US. s deficiits (trade and federal budget) unfunded Medicare liabilities and dwindling younger generation to pay taxes put it on a course where 30 years from now, US Govt Debt might not be as secure as we have always assumed it to be.  Just like no one could ever imagine GM debt becoming Junk 30 or 40 years ago, no one can imagine US Govt debt becoming junk 30 or 40 years from now (except these guys).  Just food for thought when you go 100% into anything for the very long run.

Re. the US debt becoming "junk" in 30-40 years, anything can happen I guess. I won't be here, so someone else will have to deal with it.

We have no TIPS, although I see the appeal.

Re. your standard of living increasing post-retirement, our plan is to
deliberately and continuously reduce our spending for almost
everything (actually we have been in this mode for years already).
I can guarantee one thing (DW and I just discussed this).
If you have been an "active person", age alone will cut out many
activities that used to cost you money, You simply will no longer be
physically able to do them. In my case, the major ER activities I had planned are gone.
This will happen to everyone if you live long enough. It's just nature
at work.

JG

 

[Dawg52]

I'm not much of a risk taker at this point, but I do diversify some. My current mix is 35% stocks,40% bonds,10% cd's, and the rest in other.(reits,commodities,cash) If thats too risky for you then you might think about 80% in TIPS and the rest in Vanguard's Wellesley Income Fund. It yields 3.84% and would give you a little growth potential. Good luck!

 

[unclemick]

Vanguard Target Retirement Series - Income. 2005.,2015, Lifestrategy income, cons, mod and hands on throttle managed value Wellesley are worth poking through their holdings and attempting to understand why they own what they own. Then you can relate that to your own personal ER situation.

Remember Bear Byant's linebacker definition - 'agile, mobile and hostile.'

Poster children of ER - the Terhorst's - I believe started out basically fixed CD's? (1980's) and have adjusted with stocks in the stretch.

Or just buy the appropriate Vanguard Target Retirement Series for 'you' - and go ER or something.

Two cups of coffee - and the wind on Ponchartrain is too high for kayaks.

Heh, heh, heh!

P.S. 75% Lifestrategy mod 1994 - now. Because 'our ER' could live with it's current yield. May - I say, may switch to cons or one of the Target Series by the end of the year - not getting any younger and time to reap more benefits of 'really cheap' first ten years of ER and the kindness of history (1990's).

 

[Spanky]

I'm not much of a risk taker at this point, but I do diversify some. My current mix is 35% stocks,40% bonds,10% cd's, and the rest in other.(reits,commodities,cash) If thats too risky for you then you might think about 80% in TIPS and the rest in Vanguard's Wellesley Income Fund. It yields 3.84% and would give you a little growth potential. Good luck!

Do REIT and commodites count as stocks?

 

[unclemick]

REITs and Commodities are meat for the slice and dice crowd - you need current and past correlation numbers to ask the question properly.

Anyone?

I bought REIT Index in 98&99? after Bernstien's falling correlation article in Efficient Frontier. Wall Street has been feeding the ducks in recent years - commodity wise. PCRIX has gotten mention over at Raddr's forum and I admit I'm intrigued - but have not bought yet.

It's not whether they are stocks or not - Do they fit your asset allocation model - expected growth and correlation wise - that be da question. Well! Do they bunkie?

Heh, heh, heh.

Gotta keep a grip - I was a muti asset cat in the 70's and 80's.
Before getting born again - Boglehead wise that is.

And then there is the durn Wellesley - makes my Ben Graham juices flow. Not yet, not yet.

 

[Dawg52]

Do REIT and commodites count as stocks?

I guess they could be counted as stocks. I didn't include them as part of my stock mix % as they focus on a particular asset class(real estate for example) and don't necessarily go up or down with a true stock fund.

 

[wildcat]

I consider REITs and commodities to be more of an asset class as opposed to a stock. Both are more tilted towards 'real' assets.

 

[Texas Proud]

OK, I am surprised someone has not proposed this as an alternative... so, let me know your thoughts on this..

I read somewhere that a good long term way to make sure that you will not run out of money is to buy an annuity. This is a current annuity that will pay you a monthly amount for the rest of your life. What was suggested is that you buy one that pays you a good amount of your current cash needs and then invest the rest of your money in a good stock / bond mix. The study showed that you can extend your cash by a good amount even with the same amount of spending...

And, as they said, you will never outlive your money which is a fear of some (yes, I know that inflation will make your standard of living less, but your still will have money)

 

[73ss454]

I'm not sure where you read that but are they still printing Mad Magazine?

 

[Nords]

If you don't need the risk (equities) why take it? 

IMHO think that you're confusing portfolio survival with volatility risk and I think that you both underestimate the corrosive power of inflation.  In our case we're expecting to be retired for at least six DECADES and we feel that inflation is much more of a net-worth risk than another Depression or 1973-4 or 2000-2003 or ??.

Many investors, risk-averse & otherwise, tend to retire with undercapitalized portfolios.  For example healthcare costs have risen well above everyone's estimate of inflation.  Insurance companies are finding out that they're woefully undercharging for long-tem care insurance and raising those premiums.  In addition retirees don't always factor in the capital expenses of a new roof, replacement cars/appliances, a kid's wedding, or a fantasy vacation.  

An investor diversified among several asset classes-- even without stocks as one of the classes-- has a chance to stumble across SOMETHING that will outperform inflation at various times over the portfolio's life.  So even the risk-averse can rise above their market fears and avoid invading principle (or at least exceeding SWR).  However an investor like you, Robert, has practically guaranteed that you'll never outperform inflation.  Your only choice is to cut expenses.  

The Terhorsts initially retired with a "safe" portfolio and, after nearly a decade, were forced to shift to stocks to catch up with inflation's inroads on their net worth.  Perhaps you should review "Your Money or Your Life" and then follow up on Joe Dominguez' last few years of life as he struggled to survive on his 100% Treasury portfolio.  Yeah, I know yours is different, and for your sake I hope the result is different too.  If you're truly risk averse then the logical result would seem to be diversification or at least purchasing an equity-based annuity.  You'll pay a lot in commissions but you'll have offloaded the equity risk onto an insurance company that's presumably more able to tolerate it.

You, John, at least have mitigated the inflation risk with junk & real estate.  In fact over the last couple years your results could have made you look like an investing genius.  And I know that you won't expect any sympathy from ANYONE if your decision turns out badly!

 

[TromboneAl]

...don't want to spend my leisure time watching stocks go nowhere.

Remember that you have to weigh that against the possibility that you will put all your money in TIPS and then spend leisure time watching stocks go up.

 

[yakers]

OK, I am surprised someone has not proposed this as an alternative... so, let me know your thoughts on this..

I read somewhere that a good long term way to make sure that you will not run out of money is to buy an annuity.

While I do not like or have annuities there is a rational argument for how they can be PART of a retirement plan. The assumption is that the annuity will pay more than a bond issued at the time. And it is a different asset class, so it could be some diversification. For folks on this board I think they would rather manage themselves. But my Mom is 85 and we put some of her funds into an annuity as it gives her a higher payout for the next few years.

 

[cute fuzzy bunny]

Hmmm...tips, annuities, safe withdrawal rates, lots of new users...

 

[Spanky]

In addition retirees don't always factor in the capital expenses of a new roof, replacement cars/appliances, a kid's wedding, or a fantasy vacation.

Yes, we need to consider costs of house and car maintenence, new furniture, any big ticket items (i.e., car, applicances). I am not sure about budgeting for a kid's wedding. They should be able to afford their own wedding and paying a down payment for a house instead of asking their parents.

Spanky

 

[laurence]

Yes, we need to consider costs of house and car maintenence, new furniture, any big ticket items (i.e., car, applicances). I am not sure about budgeting for a kid's wedding. They should be able to afford their own wedding and paying a down payment for a house instead of asking their parents.

Spanky

I agree. As succesful big time breadwinner parents, I can see how you'd want to give your kids some of the finer things in life, easier time than you had etc. and it's speaks well of y'all. But the fact that we had to pay for the wedding, the house, the cars, school etc. on our own was probably one of the best gifts we ever got. We know how to budget, and we know we CAN budget. That sense of independence is invaluable. I have friends who recieve substantial finanical help, and they sort of count on it, and are still kind of stuck at a high school understanding of money, despite being 30 years old. I do get nice presents on occasion, but those are unexpected and can't be relied on (or spent as cash).

-the usual caveat, every situation is different, you know your own kids, I don't, the fact you are on this board vastly increases the chance you know what you're doing already, yadda yadda.

 

[Mister Bill]

Lots of good responses that give me lots to think about.  I want to thank each of you for taking the time to respond to my question.  But I'm still confused.

For a little more insight, my future expenses will not include any expensive weddings.  I've got the kid's college costs behind me and I'm just looking at a long and safe and hassle-free retirement.

Be it 100% TIPS or a simple couch potato portfolio or the slightly more complicated "four pillars", I just want to put my retirement into some sort of investment and forget about it.  I'm not your typical Fire-Calc poster.  I don't want to watch the DOW on a daily or even monthly basis.  I want it simple and when I'm gone, continue to keep it simple for my spouse.

No need for a big inheritance for the kids and no plans for a big funeral for me.

I know that no projection of expenses is perfect, but I do feel I have a good handle on it since it is modeled on my expenses of the past 30 years factoring in additional costs due to aging.  If anything, my standard of living may improve. My projected SWR will never exceed 2%.  I've been retired for several years now and my actual withdrawal rate is negative (i.e. I'm still putting money into savings each year).

Will I go broke with 100% TIPs at 1.75% yield and a withdrawal rate below 2%?  

If there is a worry about inflation growing faster than the CPI, should I sit on cash til the yields on TIPs go back to 2.25% or 2.50% keeping the yield I receive higher than my portfolio withdrawal rate?  (Cash sounds good to me!)

Running the FIRE-CALC calculator, it says I'm 100% safe and then some. Withdrawal rates over 3% are 100% safe.  Based on simple logic, it seems that I will also be safe.   If I don't need stocks, I don't want stocks.  

With a SWR of less than 2% and TIPS yielding 2%, will it work?  

 

[Dawg52]

Lots of good responses that give me lots to think about.  I want to thank each of you for taking the time to respond to my question.  But I'm still confused.

For a little more insight, my future expenses will not include any expensive weddings.  I've got the kid's college costs behind me and I'm just looking at a long and safe and hassle-free retirement.

Be it 100% TIPS or a simple couch potato portfolio or the slightly more complicated "four pillars", I just want to put my retirement into some sort of investment and forget about it.  I'm not your typical Fire-Calc poster.  I don't want to watch the DOW on a daily or even monthly basis.  I want it simple and when I'm gone, continue to keep it simple for my spouse.

No need for a big inheritance for the kids and no plans for a big funeral for me.

I know that no projection of expenses is perfect, but I do feel I have a good handle on it since it is modeled on my expenses of the past 30 years factoring in additional costs due to aging.  If anything, my standard of living may improve.  My projected SWR will never exceed 2%.  I've been retired for several years now and my actual withdrawal rate is negative (i.e. I'm still putting money into savings each year).

Will I go broke with 100% TIPs at 1.75% yield and a withdrawal rate below 2%?  

If there is a worry about inflation growing faster than the CPI, should I sit on cash til the yields on TIPs go back to 2.25% or 2.50% keeping the yield I receive higher than my portfolio withdrawal rate?  (Cash sounds good to me!)

Running the FIRE-CALC calculator, it says I'm 100% safe and then some. Withdrawal rates over 3% are 100% safe.  Based on simple logic, it seems that I will also be safe.   If I don't need stocks, I don't want stocks.  

With a SWR of less than 2% and TIPS yielding 2%, will it work?  

Looks like your in good shape although I think most of us would still recommend some diversification. My parents never invested in stocks and my mom is sitting on a pretty nice nest egg at the age of 87. So I say go for it!

 

[wildcat]

An investor diversified among several asset classes-- even without stocks as one of the classes-- has a chance to stumble across SOMETHING that will outperform inflation at various times over the portfolio's life

bingo