Option 3: Mixing It Up
There's an interesting third approach, based on research by Wade Pfau, a retirement income specialist at the American College of Financial Services in Bryn Mawr, Pa. Pfau built a range of retirement portfolios from two simple investments — low-cost index mutual funds that follow Standard & Poor's 500-stock average, plus low-cost single premium annuities, which pay you (and a spouse) an income for life. He applied the 4 percent spending rule for a couple, age 65. The annuities paid more than 4 percent, so he put the extra into the stock fund.
All these portfolios — whatever the proportion of stocks to annuities — covered the couple's retirement spending in almost all situations. They also left more money at death than a traditional portfolio.
Whichever path you take, your target shouldn't be a "magic number" like $500,000 or $1 million. Instead, you're targeting a specific annual income.
To pursue the safety-first solution, you have to be a black-belt budgeter and saver. Work as long as you can, including part-time work; put off taking Social Security (the delay increases your future monthly income); cut spending and pour savings into guaranteed investments. Consider TIPS (Treasury inflation-protected securities), but not now — wait until interest rates go up, both Bodie and Bernstein say.
A total return investor is taking a greater risk for a better lifestyle. For you, Bernstein recommends this rule: The percent of bonds in your portfolio should equal your age, with the rest in stocks. At 55, for example, you'd be 55 percent in bonds and 45 percent in stocks. You're aiming for savings worth 20 or 25 times the amount of your annual living expenses that aren't covered by Social Security or a pension. If you approach those numbers, take money out of stocks, Bernstein says. Build up your safety-first investments.
Jane Bryant Quinn is a personal finance expert and author of Making the Most of Your Money NOW. She writes regularly for the Bulletin.