Question about Asset Allocation

[Sheryl]

I'm trying to start thinking about getting serious about my asset allocation.   

I have several "moderate allocation" funds that hold stocks bonds and cash. (FASMX, VGSTX and FTGTX)

My question is: When you calculate your allocation do you break out the holdings of each fund that you own, or just ignore the blended funds?

I just went through all my investments and created a new spreadsheet last night, breaking out each funds' holdings.  I was suprised with how it turned out - I have 25% cash, 61% stock, 12% bonds (2% "other")

I'm 44, but hoping to FIRE within 5 years.  I know I need to park the cash somewhere better than the 2% account it's in right now, and it seems like I am light on the bond side.  OTOH I feel like this is the completely wrong time to be moving more money into bonds.

I'd appreciate any thoughts or suggestions...

 

[wabmester]

OTOH I feel like this is the completely wrong time to be moving more money into bonds.

Why is that? I assume it's because you think interest rates will rise. If that's the case, then stick with short duration bonds to minimize your interest rate risk exposure. However, even long-term bonds are pretty much guaranteed to pay an average of today's yield if you hold them to maturity (or average maturity in the case of a fund).

Increase your allocation to bonds if you want to preserve your capital, lower your volatility, and get a predictable return.

Keep your high allocation of stocks if you like to gamble or believe that future long-term economic growth will be as good as or better than past economic growth.

 

[dandan14]

Hi Sheryl,
Congratulations on discovering one of the most important investment lessons...allocation!
It's great that you've already done the breakdown on stocks, bonds, and cash. However, there is no easy answer to your question.

Here are some questions to think about when making your plan:

1. What is your personal tolerance for risk? In the investing world, this is sometimes referred to as your "A" value. Fidelity used to have a questionnaire on their website to help you determine your A value. I'm not sure if it is still there, but I bet you could do a google search to find a similar tool.

2. What would happen if in 5 years your portfolio was down 20% from today's value? Would that be devastating or could you continue your current lifestyle? If it would be devastating to your plan, you should move toward a less volatile portfolio.

3. If you are planning to retire in 5 years, what interest rate are you going to have to earn on your money to live the lifestyle you want to live? Ideally, you would live entirely off of the interest, and not touch the principal (i.e. a perpetuity)? This is the most ideal situation since you may live to be 100! Is this interest rate realistically achievable? Be conservative with your numbers here.

4. If you are planning on retiring in 5 years, you should consider moving into at least 50% bonds. You could do this via a bond (or blended) fund as you have done already, or you could buy individual bonds which will pay you a coupon every month. If you are buying high-quality bonds for the dividends, it doesn't really matter what the prices in the bond market are doing. On the other hand, if you are concerned about interest rates rising in the next couple of years, one strategy could be moving into bond funds that have ultra-short durations (meaning they would be less sensitive to moves in interest rates).

I hope this helps you in your journey!

 

[Sheryl]

Why is that?   I assume it's because you think interest rates will rise.   If that's the case, then stick with short duration bonds to minimize your interest rate risk exposure. 

Increase your allocation to bonds if you want to preserve your capital, lower your volatility, and get a predictable return.

Keep your high allocation of stocks if you like to gamble or believe that future long-term economic growth will be as good as or better than past economic growth.

Thanks WAB... you're correct about my opinion that interest rates will rise.     I think I'm playing head games with myself.  I am nervous about not having a good solid piece of my portfolio in bonds, because I want that safe, predictable return.  But I don't want to miss out on the growth I know will happen in the market.    My perfect mix would be about 40% bonds and 80% stocks.   

Even though I am planning for FIRE within 5 years, I will still have another 46 years to survive (according to that life expectancy website), and I won't be doing it on the type of returns bonds alone will produce.

 

[Sheryl]

1.  What is your personal tolerance for risk? 

I come up pretty high on most of these scales.  I don't mind risk as long as there is reasonable expectation of return.

2.  What would happen if in 5 years your portfolio was down 20% from today's value?    

I'd have a lot less money.    I might not chose to permanently leave the workforce at that point...

3. Ideally, you would live entirely off of the interest, and not touch the principal...    ...This is the most ideal situation since you may live to be 100! 

We've talked about this on the board a few times...  I have no interest in preserving my principal until I die.  I have no children or close relatives that I'm preserving it for.  I'm a "last dollar with the last breath" type.   I would consider it a failure if I ended up having $1M left at the age of 96.  I want to enjoy every penny while I can.

The FireCALC scenarios that dismay me most are not the ones that run out of money early but the ones where it grows to $4 million by the time I die.


I hope this helps you in your journey!

Thanks for the advice!

 

[maddythebeagle]

I guess that my feeling is that now is the time to take more risk if you have 5 years to go. My thinking would be if you had higher returns, you might be able to retire earlier otherwise, if you have to work a little longer, you are still young. It seems like you are already in a FIRE portfolio for protecting your assets.

 

[frayne]

Just a suggestion to save you some work. Morningstar has an excellent portfolio tracker and X-ray capabilities for more advanced analysis concerning asset allocation as well as many other useful tools, stock overlap, turnover comparisions, fund expenses, etc. You can even try the premium package free for 14 days. I don't think I can live without.

 

[Sheryl]

Just a suggestion to save you some work.  Morningstar has an excellent portfolio tracker and X-ray capabilities for more advanced analysis concerning asset allocation as well as many other useful tools, stock overlap, turnover comparisions, fund expenses, etc.  You can even try the premium package free for 14 days.   I don't think I can live without.

You know, I filled all my stuff into that x-ray thing - got one look at it, and then couldn't access it again without giving them all my info. That sort of ticked me off, so I didn't bother with the 14 day trial. I am one of those people that never gets around to canceling after the trial period, and spending too much money on stuff I don't even remember signing up for.

But I agree that x-ray tool is very cool.

 

[Mr._johngalt]

Thanks WAB... you're correct about my opinion that interest rates will rise.     I think I'm playing head games with myself.  I am nervous about not having a good solid piece of my portfolio in bonds, because I want that safe, predictable return.  But I don't want to miss out on the growth I know will happen in the market.    My perfect mix would be about 40% bonds and 80% stocks.   

Even though I am planning for FIRE within 5 years, I will still have another 46 years to survive (according to that life expectancy website), and I won't be doing it on the type of returns bonds alone will produce.

I apologize as I repeat (again). I always find it interesting when someone is assuming
that they will live X more years. DW and I assume we could be gone by Christmas.
Do any of you operate this way? We think expecting to be here for 10, 20, 30, 40 etc years is just silly.

JG

 

[LOL!]

Since the morningstar X-ray tool was mentioned, I'd like to ask how useful is it really? I put my investments in and got a bunch of numbers out. However, it would not tell me the percentage of my investments in useful categories like: International, REITs & commodities. I get a market cap breakdown and value-to-growth breakdown and a comparision to the S&P500. So I look at the numbers and say, "So what? What am I supposed to do now? Yep, there are numbers staring me in the face. Should I want these numbers to look different?"

So to me, M* X-ray may look cool, but it doesn't help me at all.

 

[Sheryl]

I apologize as I repeat (again).  I always find it interesting when someone is assuming
that they will live X more years.  DW and I assume we could be gone by Christmas.
Do any of you operate this way?  We think expecting to be here for 10, 20, 30, 40 etc years is just silly.

JG

I know what you mean, in some ways.  And if I was FIREd, and living completely off the income, dividends, rents or growth of my stash,  and the cash was flowing adequately to support my chosen lifestyle....  I wouldn't give a hoot how much longer I was "expected" to be around either.

However, as I mentioned, I really don't plan to leave my entire stash to charity.  I hope to spend it down over the next 52 years.   So I want to put some thought toward how much of it I can use up on fun and adventure before I'm too old to care.   

See what I'm saying?

 

[wabmester]

I get a market cap breakdown and value-to-growth breakdown and a comparision to the S&P500.  So I look at the numbers and say, "So what?  What am I supposed to do now?

Well, this whole asset allocation thing is pretty arbitrary.   Somebody somewhere down the line decided that some arbitrary line separated "small" and "large" cap, and another arbitrary line separated "value" and "growth," and then they decreed that these categories constituted independent asset classes.

If you want to ignore all of this stuff, then simply buy the total market, and that will magically give you a weighting that the entire investor universe has voted to be "sane."

 

[Mr._johngalt]

I know what you mean, in some ways.  And if I was FIREd, and living completely off the income, dividends, rents or growth of my stash,  and the cash was flowing adequately to support my chosen lifestyle....  I wouldn't give a hoot how much longer I was "expected" to be around either.

However, as I mentioned, I really don't plan to leave my entire stash to charity.  I hope to spend it down over the next 52 years.   So I want to put some thought toward how much of it I can use up on fun and adventure before I'm too old to care.   

See what I'm saying?

Yep!

 

[LOL!]

If you want to ignore all of this stuff, then simply buy the total market, and that will magically give you a weighting that the entire investor universe has voted to be "sane."

Well, that's not quite true.  Many folks (i.e. Bernstein) say that one should not have TotalMarket, but instead LargeCap(Value), SmallCapValue, International, REITs, Commodities,FixedIncome.  If we had simply been invested in TotalStockMarket the last 5 years we would have done worse than a more "sane" asset allocation.

 

[unclemick]

Where are you in the accumulation/distribution cycle? - that's the key in my mind. A varient of the old saw - age minus 110 for stocks 'might' apply BUT for your individual ER you need to adjust.

TSM for someone looking at 20 yrs of DCA is fine in my book.

I look at Bernstein as applying to old pharts scared of fluctuation - little razz there for the dedicated slice and dicers.

Emotion,hormones, and recency(aka 1975 to 1992) color my view of course - slice and dice caused me to miss a lot of return, slowed my ER, and left a bad taste in my mouth - versus HINDSIGHT - if I'd just put everything into something akin to S&P 500 or a TSM equivalent.

Oh well - maybe this new rookie Berstein has it all figured out and:

This time it's different!

P.S. Now that I'm an old phart(62) and going on 12 yrs into ER - slice and dice is appealing as an SD damper.

 

[Sheryl]

Where are you in the accumulation/distribution cycle? - that's the key in my mind. A varient of the old saw - age minus 110 for stocks 'might' apply BUT for your individual ER you need to adjust.

I hope I'm nearing the end of accumulating. My target keeps changing. First I thought I'd be lucky to fire by 55, now I'm pretty sure I'll be out of there before 50. We'll see.

 

[bosco]

3. If you are planning to retire in 5 years, what interest rate are you going to have to earn on your money to live the lifestyle you want to live? Ideally, you would live entirely off of the interest, and not touch the principal (i.e. a perpetuity)? This is the most ideal situation since you may live to be 100! Is this interest rate realistically achievable? Be conservative with your numbers here.

I think this is questionable advice for someone of your age. People used to be told to have a large bond portfolio as they neared retirement. That probably made sense when people retired at 65 and died at 75. I think a better approach is to be cautious with money you will need in the next 5 years. Money that you won't need for a while, IMO, should be mostly in equities. Otherwise you are taking on a lot of inflation risk. I think the evidence is clear--hefty amounts of equities in the portfolio makes for a longer-lasting portfolio.

Unfortunately, the flip-side of not running out of money is having too much. In order to have a 95% safe SWR, you stand a large chance of leaving lots of money on the table. That's the price you pay for being sure not to run out. If that bothers you, consider an annuity. Although long-term, you will have less money, you can be sure of spending it all before you die--since when you die the annuity stops. Although personally, I would hesitate to buy one.

 

[Sheryl]

I think this is questionable advice for someone of your age. 

Unfortunately, the flip-side of not running out of money is having too much.  <snip> If that bothers you, consider an annuity.  Although long-term, you will have less money, you can be sure of spending it all before you die--since when you die the annuity stops.  Although personally, I would hesitate to buy one.

I agree with you Bosco -  I have no intention of putting all my investments into bonds, cash, etc. for 50 years!   

You also keyed in on my big concern, as I've mentioned I really don't want to end up with a $4M portfolio when I'm 95.   

The way I see it - I'm better off taking a risk with ER - if the market is not kind to me the worst case would be going back to work.    I'd rather ER at 80% safety level, and go back if I had to, than to wait another 5-10 years "just in case."

One of the points I've absorbed reading this forum is that no plan is foolproof without using a little common sense and human reasoning skills.

 

[Nords]

You also keyed in on my big concern, as I've mentioned I really don't want to end up with a $4M portfolio when I'm 95.   

If I ended up in that situation, the money would go a lot farther on Keeamoku Street than I would.

But I'd much rather be in that situation than on the other side of the ledger. What size retirement portfolio SHOULD we have when we're 95? And how long should we expect it to last?!?

 

[ronin]

95 seems a brilliant age to exuviate, so I'll say 0% & 0%. 

 

[Nords]

95 seems a brilliant age to exuviate, so I'll say 0% & 0%. 

"Exuviate" makes a lot more sense when you don't confuse it with "exfoliate".

This board has really expanded my vocabulary...

 

[Sheryl]

I had to look that one up too. Here's a great opportunity I found in the process.

"exuviate.com - Exuviate info. This website is for sale!"


I've been using age 95 for my FIRECalc planning - mainly because I'm 45 and 50 is a nice even number to plug in. In reality I'll probably want to make sure that I have enough to live to about 105. My grandmother is 101 and going strong.

But as I read recently, and notice with firecalc most portfolio cacluators seem to "go asymtotic" at anthing beyond 40 or 50 years.

 

[bosco]

One of the points I've absorbed reading this forum is that no plan is foolproof without using a little common sense and human reasoning skills.

I also think being flexible is key. The "I'm going to take out 4% inflation adjusted no matter what" is not part of my plan. I'll have a core amount that I need to pay the bills, and then take out more in good years and less in bad years. The alternative is to work longer to build up a bigger "war chest." I value my time more than that.

There are a couple of calculators that help evaluate flexible withdrawal schemes. I think flexibility is a good thing--and conducive to maintaining health as one ages.

 

[Sheryl]

The alternative is to work longer to build up a bigger "war chest."  I value my time more than that.  <snip>  I think flexibility is a good thing--and conducive to maintaining health as one ages.

Amen Brother!