Minimum risk real return??

[test915]

I'm new here and the discussions look interesting, so I thought I'd put out the same question I've started to ask some financial planner professionals:

I'm about a year or so away from early retirement and have done some detailed income/expense projections.  I'll sleep best at night if a certain percentage of my portfolio is earning a 4% REAL return.  I realize earning this return is possible.  But my question is, what is the SAFEST way to earn a 4% real return, each year.  Thanks for your ideas and comments.

 

[73ss454]

Welcome test915

The best way to realize 4% the safest possible way is in CD's

We have some in house experts on the board who will advise you with some other ways that are also safe.

 

[wildcat]

Only thing you can earn a 4-5% real return is equities, probably on the low end with higher than avg valuations. Good luck finding the riskless sleep easy real return asset of 4%. Anything else that comes out of your FP's mouth is full of sh*t

I can provide with links if you would like to read.

 

[retire@40]

The best way to realize 4% the safest possible way is in CD's

If he wants a 4% REAL return, he won't get it in CDs right now.  It's hard to say what the safest way is to earn that real 4% since you will have to take on some form of risk.  My feeling is that the safest risk now is in equities (index funds), but that is just a guess on my part.  I think junk bonds and real estate are more risky than equities right now.  And since CDs are only getting a 1% to 2% real return, CDs are also out.

 

[Bookm]

I agree with the consensus. I cannot think of an investment that can guarantee a 4% real return going forward. Oh maybe an annuity can give you that, before they take out their fees and expenses. And with inflation in the neighborhood of 2.5-3% anually over the last 5 years or so, you'd have to find an investment earning 7% - more if it will be in a taxable account.

With stock market valuations as they are now, many in the finance world much more intelligent than you or I are predicting real returns over the next decade (or more) in the neighborhood of 3-5%. Remember, these are stock returns, which are far from resembling a sure fire, safe investment.

One's best chance at directing one's portfolio across smoother waters is to setup a well-diversified portfolio spread out among several types of assets. Theoretically this helps to avoid the whole shebang going in the toilet at once. Instead, while these  investments over here have a down year, the other ones do ok, or allow you to keep your head above water. Similar to a balanced mutual fund where a certain portion of the fund's money invests in stocks and some invests in bonds. Usually, bonds zig while stocks zag.

Other than that, I don't know of any silver bullet to let you cruise down easy street with a virtually risk-free 4% real return. If you can invest in stocks or stock funds that pay a nice dividend, like 3% nominal or so, you're halfway there. If you can squeek out another 3% return thru price appreciation over the long-term. You'd be lucky. But that's easier said than done. Hope this helps.

Bookm

 

[Mr._johngalt]

Only thing you can earn a 4-5% real return is equities,

I can provide with links if you would like to read.

Can you say "real estate" ?

JG

 

[wildcat]

Real estate has not historically done as well after accounting for inflation but it has its place in a portfolio.

 

[cute fuzzy bunny]

Yep, most real estate markets over most time periods go nowhere.

My opinion of my own local inflation rate is running around 5-6%, and thats leaving out the real estate that goes up 15-25% a year. So a 5% cd is going to just keep you even.

Nothing like that from bonds except ibonds and I still dont believe CPI covers full inflation, except in very inexpensive parts of the country. Definitely not around here. And I expect CPI to go down within the next 2 years and stay there a while.

 

[Spanky]

According to Bill Berstein, the real (inflation-adjusted) portfolio expected return can be calculated as follows:

1. 25 percent of your portfolio is in small stocks. .25 x 6% = 1.5%

2. 25 percent of your portfolio is in large stocks. .25 x 4% = 1.0%

3. 50 percent of your portfolio is in bonds. .5 x 3% = 1.5%

Thus, the real long-term expected return of this portfolio is:

1.5% + 1.0% + 1.5% = 4.0%.

 

[poyet]

Notth,
It's surprising to read that while guessing inflation figures you discount real-estate for 15-25% yearly and furthermore assert that "real estate markets over most time periods go nowhere". !!??

It's not only surprising but incorrect. Studies over all classes of assets (e.g. from de Laulanié) including stocks (US and French), bonds AND real estate RE over a century show what to expect including RE. The RE market studied is the residential sector in Paris (given data provided by notaries over more than 100 years), one could have studied other RE incuding NNN props etc.

BUT, one thing for sure, over decades the ONLY TWO CLASSES of assets having a positive REAL RETURN are stocks (equities) and real estate. It's then a long discussion to compare the merits of the various classes of assets (it is a course on investing !) but one should keep in mind that to hedge against inflation and get *some* return you can only go for equities or RE. Of course you can add bonds or a bit of money market to decrease volatility, etc. depending on your age and life esperance, etc.. but it comes to tuning.

You can compute optimal portfolios over a century with or without RE. Generally speaking with RE is just sligtly less performant but much less volatile. The efficient frontier is around for a 45-50 years old person with 50% in RE, 35% in equities, 10% bonds, 5% MM, ideally the 5% should represent at least a one year budget.

Well, that's all folks for today, I'll be back if some are interested by the subject.
Patrice.

 

[test915]

Thanks for everyone's comments. I recognize that 4% real return isn't easy, and the "minimum" risk level requested may be essentially that of a well thought out equity portfolio. ... I hadn't considered real estate in this connection, but will spend some time on that idea... Thanks again.

 

[Mr._johngalt]

Notth,
It's surprising to read that while guessing inflation figures you discount real-estate for 15-25% yearly and furthermore assert that "real estate markets over most time periods go nowhere". !!??

It's not only surprising but incorrect. The efficient frontier is around for a 45-50 years old person with 50% in RE, 35% in equities, 10% bonds, 5% MM, ideally the 5% should represent at least a one year budget.

Patrice.

That's about where I am except no equities.

JG

 

[cute fuzzy bunny]

It's surprising to read that while guessing inflation figures you discount real-estate for 15-25% yearly and furthermore assert that "real estate markets over most time periods go nowhere". !!??

Thats not at all what I said, I said that MOST real estate markets over most time periods go nowhere. The 15-25% figures are what my own local real estate market is seeing. The 'discounting' is noting that even excluding those figures, my local personal inflation rate is higher than CPI. Hence a serious challenge to 'real' returns being positive. Please actually read and quote ALL of a comment?

It's not only surprising but incorrect.

Interesting. Please tell that to majority of homeowners in the united states that have seen virtually zero growth in their home values over the last 10 years and the majority who expect to see none. Perhaps its different overseas...I've done no research and have no experience with non-US real estate since I've never owned any and dont expect to.

I wouldnt disagree with your comments if we were discussing REITS rather than individual home prices and localized inflation. However for someone trying to invest and buy their first home in many US real estate markets, they would have had a very hard time realizing any sort of 'real' return against being able to buy that first home when the home prices are running away from them at 2x+ the average annual rate of return on equities.