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New Strategy For Equity Investing During Retirement Ignites Debate
I find these kinds of 'research' studies to often have very little application to real-world practice. Additionally, these are based on past history, the last 30 years of which included a bond bull market. In some ways, things ARE different for those starting retirement now, a LOT different than they were 30 years ago. One important aspect is that people are living longer. We run our client lifetime income projections to age 100. Another key point is that there is no 'average' retiree. Our experience is that they have different risk tolerances, different income needs, different lifestyles, different goals in terms of whether they are comfortable spend down their assets or not, just to name a few. And given the current state of health care in this country, and with the potential for the ACA to implode being real, how do retirees plan for health care costs? We tell clients they will absolutely need to be flexible in their investment allocations.
I'm retired, wife isn't. A financial expert guy lately told me that up to 70% equities would be appropriate. She's just 40 this year. Bonds? Seems to me that holding bonds to any substantial degree is to shoot yourself in the foot. Took an expert to convince me, in person, that my own thinking was not the way to go. (Eventual) Disaster averted, but Opportunity Lost, this year. Still time to make up the ground. There is no deadline on when we stop growing and start taking from portfolio.
Good point, MaxBialystock. As I noted, every situation is different. Using a generic rule-of-thumb approach is so lazy, but that is what is often recommended. The worst one is the old 'subtract your age from 100, and that is what you should have in equities'. Amazingly that one still has a lot of devotees.
Reply to @BobC: For what its worth department, as of today at 76 years of age my asset allocation breakdown. Regards, Ted Stocks: 71.75% Fixed-Income: 16.21% Mutual Funds: 9.81% Cash: 2.23%
Excerpt - "Inaction regret fades more slowly; has a more powerful influence over the long term ... Action regret tends to fade more quickly than inaction regret."
Reply to @hank: I remained fully invested through the '08-'09 Crash, and kept adding to my portfolio, every single month. (Stopped---at retirement, in 2011.) So I'm not among those who missed the substantial gains when the Market took off again later in '09, after having pulled out. But I was, particularly after this past summer, swimming upstream, trying to grow my monthly bond dividend (and reinvest it all) in a stinky environment for bonds and bond funds.
I'm very much aware of the mistake made by those "chasing profits," who get onto the bandwagon late. I've used information gained here at MFO to very beneficial effect, in choosing my mutual funds. I am learning that one can get OUT too late, though. And it's ONE thing to switch from one fund to another while the Market is at or near all-time highs. It's ANOTHER to switch from bond funds to equity funds when the numbers have already been run-up. Leaves a bad taste in my mouth, but I cannot dwell on NOT having exited sooner. ...At this point, the end-of-year December pay-outs are something to look forward to. At this moment, my.........
-EM bond stake is down to 3.89% of holdings; (PREMX)
-"global" bonds (MAINX) 3.64% (And I notice the biggest holding is Cayman Islands stuff. This fund is going nowhere in terms of share price, but the quarterly divs. are nice. I take that as a good thing in the current negative environment. It's not fallen nearly as much as some other global and/or EM bond funds. And overall, I have indeed made money with it: +7.58%, actually.)
-.....domestic bonds (DLFNX) 2.51%
-That's 10.04% in bonds, so far....
MACSX and SFGIX holds some convertibles, I do believe; and MAPOX and PRWCX hold bonds, too.
MACSX 2.62% of portfolio. MAPOX 8.02% PRWCX 17.65% TRAMX 3.14% MSCFX 3.24% SFGIX 2.83% PRESX 15.34% (developed Europe. I looked. Not a thing "emerging.") MAPIX 37.11% (I plan to move some of that to MPACX and some to MPGFX.)
Thanks to all. It's one thing to learn. Another to execute. And maybe sometimes, the only way to learn is by executing. "Break a leg," everyone.
BobC is right. Thing missing in discussion is ability to participate in portfolio management as and when needed and the margin of safety given portfolio size vs needs. No two people are alike in this.
Higher the ability/margin, higher one can risk beta exposure. For example, Ted's beta exposure above at his age would be fine for an actively monitored (not to be confused with traded) portfolio that can be modified significantly IF conditions were to change, not if one wants to just look at it once a year or more and go fishing.
Reply to @MaxBialystock: Sounds like a plan:-) Didn't mean to critique your analysis or investment approach. Read the linked article earlier this morning and your use of "opportunity lost" piqued my memory. So - added the link for better or worse. Regards
I have used different retirement planning software that has given me good direction. For about last 10 years my RMD, usually about 4% and SS have been a comfortable way to go and stopped earning income about 6 years ago. Next year I will raise my distribution to about 6%. We have both trad and roth and have not taken any roth and no plans to do so. My equity has been about 70% and I have started reducing slowly.
You all know that I am a huge fan of Monte Carlo simulations for retirement planning purposes. I have considerable practical experience in this realm. As my retirement date approached such tools did not commonly exist, so I programmed my own Monte Carlo simulator. Monte Carlo analyses guided some of my retirement and post-retirement investment decisions.
I have reviewed the Pfau and Kitces paper; it surely offers a prospective that dramatically departs from the conventional wisdom. During my retirement work I did not explore the portfolio option that they now advocate.
I surely do not know if their proposed strategy of annually and incrementally increasing equity positions from a low initial holding percentage will truly enhance a retiree’s portfolio survival prospects. But the Monte Carlo method is certainly the proper tool to examine this somewhat shocking plan.
Today, on the Internet, we have free access to powerful Monte Carlo simulators to test the merits and shortcomings of the Pfau-Kitces hypothesis.
The best Monte Carlo retirement code that I am familiar with is “The Flexible Retirement Planner”. You will need Java to run the program. Here is the Link to that fine analytical tool:
Please visit the site even if you are not immediately concerned with the current debate. You will discover that the code has many useful study applications for your personal investment decision making issues.
The input requirements are both flexible and easy. To examine the Pfau-Kitces strategy you will need to input a changing annual portfolio return/standard deviation estimate. Hit the “Additional Inputs” button to gain access to a screen that permits annual input variations. When ready, hit the “Run Simulation” button to get almost instantaneous simulation results.
I challenged the Pfau-Kitces findings by running a few exploratory scenarios. I did not do enough cases to come close to resolving the issues. For the limited test cases that I did complete, portfolio survival results were mixed and similar when comparing a typical 50/50-like portfolio mix against one that is bond dominated initially, and progressively approximates an increasing equity position. I assessed the minor survival differences as noise; the strategies were a wash from a portfolio survival percentage perspective.
Overall, I doubt the wisdom of increasing equity positions as a function of retirement age. The behavioral and psychological aspects of investing act against this plan. The strategy demands nerves of steel from an aging population.
Also, imagine the classic investment reward/risk plot. As expected return increases, the portfolio’s standard deviation increases. The plotted line represents average anticipated annual returns. In reality, at each risk (standard deviation) position, a returns distribution exists in the returns dimension.
When the standard deviations are low (representative of a bond dominated portfolio), the returns bell shape-like distribution is modest. As standard deviation increases (more equity influenced portfolio) , one expects that the bell-shaped returns distribution will become higher (better maximum return), but with a much wider distribution. If fact, that wide distribution will cause more frequent negative return years. Retirees will find this outcome to be more difficult to accept. I doubt the retiree will persist with this adventurous strategy given that singular event. Risk aversion grows with age.
I recognize that my comments likely add some fuel to the Pfau-Kitces debate, but that’s okay. An open exchange should contribute to a better informed investor.
Take care, and please visit the referenced website. I find it a reliable and useful tool.
I "think" I am retired or at least trying to be retired. Albeit, since my profession was that of a trader, primarily equity and bond mutual funds, you never actually retire. But very recently I have decided to concentrate only on bonds, bonds, and more bonds and forget about equities and equity funds entirely. I just don't want the envitable drawdown, confinement, and attention to detail associated with equities, at least as compared to the more tame and controlled drawdown associated with bond funds. There is always a bull market somewhere in bondland and where prices are in the tight rising channels I focus on. Presently, I am down to a mere 4% in individual stocks and 91% in bonds primarily HFRZX with a smattering in NCOIX and 5% cash.
As for obsessing over retirement and monte carlo simulations what am I missing here? I mean let's say an aging single investor (over 65) is debt free and has a nest egg of $2,000,000 (which hopefully is still increasing in size annually) plus social security and annual expenses after such social security of say $40,000. Why would he need all sorts of fancy calculations to know his nest egg will outlive him? I would think his problem would be more in spending and enjoying than saving and preserving in old age. I know a few who oversaved and overhoarded only to see their hard earned nest egg 100% completely eroded (before eventually going on Medicaid) by nursing home/care in the last few years of their lives.
Reply to @Junkster: Thanks Junkster...when I retire, I want to be just like you....hopefully with a little larger bond portfolio. Your experience with equities as a trader and your seemingly contrarian approach with your overwhelming weight towards bond, especially in this bond-phobia environment grabs my by the T-Bills.
Anyway, thanks for sharing your approach and maybe more of us should take notice. Seems like a nice unappreciated part of the investment spectrum these days.
Reply to @Junkster: There are bonds that act like equities and there are are bonds that don't. So, you can construct an all bond portfolio that has an equivalent balanced portfolio with same volatility and risk/reward and sensitivity to market conditions. The reason you don't have many equity funds with that lower volatility is because they don't sell when their performance looks relatively poor in bull markets so they take much more risks. You are just managing your beta exposure via bonds. That can work.
One advantage with equivalent equity exposure is that you can tax manage them better than bonds if they are not in tax-advantage accounts because of the treatment of capital gains vs dividends. That may or may not be an issue depending on one's circumstances but it could be a showstopper for some.
I agree with you on this simulation nonsense above and beyond simple return projection calculators but they can be good for entertainment and self deception.
Reply to @Junkster: HFRZX lost 44% in 2008 and did not recover its loses till now. So it looks like it is a momentum trade right now and requires constant attention from you. Do you think it is a safer bet than stock fund? I always compare fund performance with my favorite FPACX
Reply to @DavidV: David, yes, purely a tight rising channel momentum trade where I am using a 1.25% (actually more like 1.10) trailing stop from highs. That's because over the past 12 months the fund hasn't had that type of decline and such a decline will most likely lead to a further decline. Same thinking as last year at this time where I was almost 100% in PONDX and using a 1% decline as a stop because that had been its largest decline over the previous 12 months. Once that decline came (in 2013) it lead to a much further decline.
FPACX obviously is best in its class and an excellent fund, albeit a totally different animal than HFRZX I can't trade/invest in that because of its 2% 90 day redemption fee. I never know when I might have to exit so stay away from redemption fee funds. It's largest decline the past year looks like around 2.7% or so.
HFRZX is juicing its returns by venturing back into in CLOs (collaterized loan obligations) and that is why it took it on the chin in 2008. They got involved in lots of lawsuits for that fiasco and changed managers. But now that manager of old is back in the reins. I wouldn't recommend this fund for this board as this is a super ultra-conservative group of investors (and I don't mean that in a derogatory manner)
Comments
Regards,
Ted
Stocks: 71.75%
Fixed-Income: 16.21%
Mutual Funds: 9.81%
Cash: 2.23%
http://www.pyramis.com/ecompendium/us/articles/2013/q2/commentary/regret-on-investment-decisions/index.shtml
Excerpt - "Inaction regret fades more slowly; has a more powerful influence over the long term ... Action regret tends to fade more quickly than inaction regret."
I'm very much aware of the mistake made by those "chasing profits," who get onto the bandwagon late. I've used information gained here at MFO to very beneficial effect, in choosing my mutual funds. I am learning that one can get OUT too late, though. And it's ONE thing to switch from one fund to another while the Market is at or near all-time highs. It's ANOTHER to switch from bond funds to equity funds when the numbers have already been run-up. Leaves a bad taste in my mouth, but I cannot dwell on NOT having exited sooner. ...At this point, the end-of-year December pay-outs are something to look forward to. At this moment, my.........
-EM bond stake is down to 3.89% of holdings; (PREMX)
-"global" bonds (MAINX) 3.64% (And I notice the biggest holding is Cayman Islands stuff. This fund is going nowhere in terms of share price, but the quarterly divs. are nice. I take that as a good thing in the current negative environment. It's not fallen nearly as much as some other global and/or EM bond funds. And overall, I have indeed made money with it: +7.58%, actually.)
-.....domestic bonds (DLFNX) 2.51%
-That's 10.04% in bonds, so far....
MACSX and SFGIX holds some convertibles, I do believe; and MAPOX and PRWCX hold bonds, too.
MACSX 2.62% of portfolio.
MAPOX 8.02%
PRWCX 17.65%
TRAMX 3.14%
MSCFX 3.24%
SFGIX 2.83%
PRESX 15.34% (developed Europe. I looked. Not a thing "emerging.")
MAPIX 37.11% (I plan to move some of that to MPACX and some to MPGFX.)
Thanks to all. It's one thing to learn. Another to execute. And maybe sometimes, the only way to learn is by executing. "Break a leg," everyone.
Higher the ability/margin, higher one can risk beta exposure. For example, Ted's beta exposure above at his age would be fine for an actively monitored (not to be confused with traded) portfolio that can be modified significantly IF conditions were to change, not if one wants to just look at it once a year or more and go fishing.
My equity has been about 70% and I have started reducing slowly.
You all know that I am a huge fan of Monte Carlo simulations for retirement planning purposes. I have considerable practical experience in this realm. As my retirement date approached such tools did not commonly exist, so I programmed my own Monte Carlo simulator. Monte Carlo analyses guided some of my retirement and post-retirement investment decisions.
I have reviewed the Pfau and Kitces paper; it surely offers a prospective that dramatically departs from the conventional wisdom. During my retirement work I did not explore the portfolio option that they now advocate.
I surely do not know if their proposed strategy of annually and incrementally increasing equity positions from a low initial holding percentage will truly enhance a retiree’s portfolio survival prospects. But the Monte Carlo method is certainly the proper tool to examine this somewhat shocking plan.
Today, on the Internet, we have free access to powerful Monte Carlo simulators to test the merits and shortcomings of the Pfau-Kitces hypothesis.
The best Monte Carlo retirement code that I am familiar with is “The Flexible Retirement Planner”. You will need Java to run the program. Here is the Link to that fine analytical tool:
http://www.flexibleretirementplanner.com/wp/
Please visit the site even if you are not immediately concerned with the current debate. You will discover that the code has many useful study applications for your personal investment decision making issues.
The input requirements are both flexible and easy. To examine the Pfau-Kitces strategy you will need to input a changing annual portfolio return/standard deviation estimate. Hit the “Additional Inputs” button to gain access to a screen that permits annual input variations. When ready, hit the “Run Simulation” button to get almost instantaneous simulation results.
I challenged the Pfau-Kitces findings by running a few exploratory scenarios. I did not do enough cases to come close to resolving the issues. For the limited test cases that I did complete, portfolio survival results were mixed and similar when comparing a typical 50/50-like portfolio mix against one that is bond dominated initially, and progressively approximates an increasing equity position. I assessed the minor survival differences as noise; the strategies were a wash from a portfolio survival percentage perspective.
Overall, I doubt the wisdom of increasing equity positions as a function of retirement age. The behavioral and psychological aspects of investing act against this plan. The strategy demands nerves of steel from an aging population.
Also, imagine the classic investment reward/risk plot. As expected return increases, the portfolio’s standard deviation increases. The plotted line represents average anticipated annual returns. In reality, at each risk (standard deviation) position, a returns distribution exists in the returns dimension.
When the standard deviations are low (representative of a bond dominated portfolio), the returns bell shape-like distribution is modest. As standard deviation increases (more equity influenced portfolio) , one expects that the bell-shaped returns distribution will become higher (better maximum return), but with a much wider distribution. If fact, that wide distribution will cause more frequent negative return years. Retirees will find this outcome to be more difficult to accept. I doubt the retiree will persist with this adventurous strategy given that singular event. Risk aversion grows with age.
I recognize that my comments likely add some fuel to the Pfau-Kitces debate, but that’s okay. An open exchange should contribute to a better informed investor.
Take care, and please visit the referenced website. I find it a reliable and useful tool.
Best Regards.
As for obsessing over retirement and monte carlo simulations what am I missing here? I mean let's say an aging single investor (over 65) is debt free and has a nest egg of $2,000,000 (which hopefully is still increasing in size annually) plus social security and annual expenses after such social security of say $40,000. Why would he need all sorts of fancy calculations to know his nest egg will outlive him? I would think his problem would be more in spending and enjoying than saving and preserving in old age. I know a few who oversaved and overhoarded only to see their hard earned nest egg 100% completely eroded (before eventually going on Medicaid) by nursing home/care in the last few years of their lives.
Anyway, thanks for sharing your approach and maybe more of us should take notice. Seems like a nice unappreciated part of the investment spectrum these days.
One advantage with equivalent equity exposure is that you can tax manage them better than bonds if they are not in tax-advantage accounts because of the treatment of capital gains vs dividends. That may or may not be an issue depending on one's circumstances but it could be a showstopper for some.
I agree with you on this simulation nonsense above and beyond simple return projection calculators but they can be good for entertainment and self deception.
I always compare fund performance with my favorite FPACX
quote.morningstar.com/fund/chart.aspx?t=HFRZX®ion=USA&culture=en-US&statePara=%7Bsecurities%3A%5B%7Bn%3A%22Highland%20Floating%20Rate%20Opportunities%20Z%22%2Cids%3A%22FOUSA00H0H%7C0P00002U7K%7CCU%24%24%24%24%24USD%7C1%7C1%7CFO%7C2000-1-12%7C%7C%7Cfalse%7CUSA%7C16%22%7D%2C%7Bn%3A%22FPA%20Crescent%22%2Cids%3A%22FOUSA00ESC%7C0P00002RZO%7CCU%24%24%24%24%24USD%7C1%7C1%7CFO%7C1993-6-2%7C%7C%7Cfalse%7CUSA%7C19%22%7D%5D%2CchartType%3A%22GrowthChart%22%2Crange%3A%222003-12-6%7C2013-12-6%22%2Cperiod%3A9%2Cregion%3A%22USA%22%2Ctc%3A%22USD%22%2CisD%3A%220%22%2CisR%3A%220%22%2CrM%3A3%2Cscale%3A%221%22%2CbMenu%3A%22%22%2Csma%3A%220%2C0%2C0%22%7D
FPACX obviously is best in its class and an excellent fund, albeit a totally different animal than HFRZX I can't trade/invest in that because of its 2% 90 day redemption fee. I never know when I might have to exit so stay away from redemption fee funds. It's largest decline the past year looks like around 2.7% or so.
HFRZX is juicing its returns by venturing back into in CLOs (collaterized loan obligations) and that is why it took it on the chin in 2008. They got involved in lots of lawsuits for that fiasco and changed managers. But now that manager of old is back in the reins. I wouldn't recommend this fund for this board as this is a super ultra-conservative group of investors (and I don't mean that in a derogatory manner)
http://finance.yahoo.com/echarts?s=SNLN+Interactive#symbol=snln;range=1y;compare=hfrzx;indicator=volume;charttype=area;crosshair=on;ohlcvalues=0;logscale=off;source=undefined;
What is special about this fund?