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Packing Your Portfolio for Retirement

When the market crashed in late 2008, people rushed to sell stocks. Then in 2009 it rose dramatically, and they poured money into the priciest, riskiest funds. This year, with the market up one day and down the next, who knows what to do?

It’s human nature to want to sell losers and buy winners. Unfortunately, selling low and buying high is also a guaranteed way to lose money. There’s a more effective and much less nerve-racking approach to investing, particularly as you approach retirement:

Think of your portfolio as a suitcase you’re packing for a long journey. You want to fit all the essentials and a few accessories into one bag. You need a good reason to pack each item you take.

Pack in layers in order to provide for a steady cash flow plus asset growth over time.

The first layer: cash and fixed-income investments

Essential items for this layer, says Eleanor Blayney, consumer advocate for the Certified Financial Planner Board of Standards, are investments that provide a safe, steady cash flow. These include a money market fund, a certificate of deposit “ladder,” a short-term Treasury bond fund and Treasury inflation-protected securities (TIPS).

  • While you’re working, a money market account is your emergency fund. After you retire, periodic withdrawals from this account, along with any pension income, will pay your daily living expenses, .
  • A CD ladder contains certificates that mature at different times. Rolling over early-maturing CDs lets you reinvest as interest rates rise, as most experts expect them to do over the next few years.
  • The short-term Treasury bond fund is your foul-weather gear. When the financial markets panic, investors pile into government-backed securities. (In 2008, they were the best thing to own.)
  • TIPS are for inflation protection. These federal bonds pay a fixed interest rate—unimpressive in today’s market—but their face value is adjusted according to the consumer price index. “When inflation returns, people will be clamoring for them,” says Loretta Nolan, president of Loretta Nolan Associates LLC, a fee-only financial advisory firm in Old Greenwich, Conn.

For retirees, the first layer of the suitcase should cover five to 10 years’ worth of cash needs above Social Security. But it shouldn’t exceed 50 percent of the total portfolio, says Blayney. “If five years of living expenses equals 80 percent of your portfolio, you’ll need to supplement your income from outside sources like a part-time job or the equity in your house,” she says.

Your first layer might also include these accessories, useful for people in certain financial circumstances:

  • An annuity. If you want insurance against outliving your income, you might use about 25 percent of your first layer to buy an annuity that pays you a fixed amount as long as you live. Nolan suggests shopping around. You’ll be rewarded if you wait—annuity payments are higher the older you start. Blayney also advises waiting until interest rates have risen from their current rock-bottom levels, because annuity payouts are also based on rate levels when you buy. Finally, she adds, buy a fixed-income annuity instead of one whose payout varies along with stock or bond prices. You want this product for predictability; variable annuities don’t give you that.
  • Municipal bonds. Tax-exempt municipal bonds might make sense if you’re in a high tax bracket. The Morningstar Bond Calculator can help you decide whether someone in your tax bracket would benefit more from municipal bonds or higher-yielding taxable bonds.

The second layer: stocks

Even conservative retirees shouldn’t keep more than 50 percent of a portfolio in fixed-income investments unless they have a ton of money or a very short life expectancy, says Harold Evensky, a Coral Gables, Fla., financial planner. Historically, bonds have returned only about 2.5 percent after inflation. On a $1 million portfolio, that’s just $25,000 a year.

The essential item in your financial suitcase’s second layer is a broadly diversified stock portfolio. This provides the best opportunity for your money to grow over time.

Put two-thirds of this layer into a diversified U.S. stock fund, like an S&P 500 or a Wilshire 5000 index fund. Put the remaining third into a diversified international fund. Remember, you’re packing these investments so they’ll provide long-term growth to protect you from inflation, not for short-term returns. Don’t toss them out of your bag after a bad year.

Potential accessories in this layer include some that are more conservative, and others that offer a chance at high growth:

  • A broadly diversified, intermediate-term bond fund that offers a combination of safety and returns. It should combine government and high-quality corporate bonds and have an average maturity of about six years, says Blayney.
  • Corporate bonds. Consider a small investment in a diversified investment-grade bond fund (not a “high-yield” or junk bond fund) only if you can live with volatility—and only for money you won’t touch for five to 10 years. Corporate bonds carry stock risk: Their value depends partly on the fortunes of the company that issued them.
  • An emerging markets fund. Make it just a sliver of your stock holdings, advises Blayney: “It’s a very long-term investment. Emerging markets economies are going to be bigger in 10 or 15 years, but they’re likely to have very jagged growth along the way.”

Living out of your suitcase

As a retiree, you’re spending your portfolio, so you must keep replenishing your cash investments. Have your stock fund distributions sent into your money market fund instead of reinvesting them, suggests Blayney.

Be prepared to sell stocks along the way, too. “Many of us grew up with the idea that we should never spend principal,” she says. “But for most retirees, that simply isn’t realistic.”

You must rebalance your portfolio every year. If you decided on 50 percent in cash and bonds and 50 percent in stocks, for example, and your stock funds have grown to 55 percent of the total, sell the extra 5 percent and transfer it to your money market fund.

But you don’t need to be constantly repacking and rebalancing your investments. Don’t keep looking into your suitcase, advises Nolan. “Instead, go out and enjoy the trip.”


Lynn Brenner is a New York-based writer. She answers personal finance questions at www.lynnbrennersfamilyfinance.com.

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