But is your caution risking your future? Yes, says Michael Kitces, director of research for the Pinnacle Advisory Group in Columbia, Md. On average, we're living longer and not earning much on quality bonds and bank CDs, he says. If we huddle around investments that cannot grow, the risk rises that we'll run out of money.
What if we reversed the conventional rule and gradually held more money in stocks, rather than less, after we retired?
When I first heard that idea, I said, "Nuts. High risk." But as I read the new research, I changed my mind. It's actually an approach that could make your retirement savings last longer and, potentially, leave more for heirs.
Lower your risk
Think of it as a "three-bucket" strategy, Kitces says.
In one bucket you hold cash to help cover expenses for the current year. That's grocery money. Keep enough to pay bills not covered by other income, such as Social Security, a pension or part-time work.
In the second bucket, you own short- and intermediate-term bond mutual funds, with dividends reinvested. You gradually add to your bonds during your preretirement and immediate postretirement years. By age 60 or 65, these first two buckets might hold 70 percent of your retirement investments. Every year, you take money from the bond bucket to replenish your cash. If interest rates rise, you'll be using your dividends to buy higher-rate bonds, which will partly offset your market losses. (Prices of existing bonds fall when interest rates rise.)
The remaining 30 percent of your money goes into the third bucket, invested in mutual funds that own U.S. and international stocks. You don't expect to touch these stock funds for 10 to 15 years.
As time passes and you sell bond shares to pay your expenses, that bucket shrinks. The percentage of savings that you hold in stocks will gradually rise. You won't have to sell when the market drops. In fact, your dividends will be buying you more stocks on the cheap. By the time your bond bucket runs low, your bucket of stocks will have grown in value, maybe by a lot. That's money for your later years.
When withdrawing cash from your bond funds, follow the 4 percent rule for making money last for life. Start with an amount equal to 4 percent a year of all your savings (counting both stocks and bonds) and raise it by the inflation rate in each subsequent year. For example, say you have $100,000 — $70,000 in bonds, $30,000 in stocks. Your first withdrawal would be $4,000, and would rise from there. (If you take more than 4 percent, your savings might run out too soon.)
If your investments are mainly in a 401(k) or individual retirement account, it's easy to switch between stocks and bonds. If not, you'll have to consider taxes when you make a change or use new savings to bring the stock or bond bucket to the right size.
What makes this three-bucket strategy low-risk? First, your bonds secure your grocery money for at least 15 years. Second, if the market crashes when you first retire, you have only a modest amount in stocks and can afford to wait for a recovery. (People who sold after the 2008 crash came to regret it.)
Focus on growth
Wyatt Lee, portfolio manager for the mutual fund group T. Rowe Price, agrees that relying on "safe" investments won't work. "You need a substantial amount of equities to maintain your income for life," he says. Assuming a 30-year retirement, you'd spend half your money in the first 15 years and half in the second 15 years. The later money should be invested for growth.
Lee takes a more familiar approach — reduce your exposure to stocks as you age. But he starts out high. At age 65, he advises a stock fund allocation of 55 percent. Your 4 percent withdrawals would come from both stocks and bonds. At 75, you'd still have 42 percent in stocks. If a bear market hit just when you retired, you'd take a larger loss than with Kitces' approach. You'd gain it back but might be more tempted to sell.
Follow Kitces or Lee. Either way, you can't give up on stocks.
Jane Bryant Quinn is a personal finance expert and the author of Making the Most of Your Money NOW.
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