There's such a thing as 'too' safe
WASHINGTON -- Here's a bad idea whose time has gone: Retirees should keep a lot of their money safe in bonds.
Traditionally a popular source of income for folks on the receiving end of Social Security, bonds have "failed miserably" to protect retiree income, according to a recent study by financial adviser Tom McGuigan.
"The standard industry mantra of balance -- the 60/40 split (with 60 percent in stocks, 40 percent in bonds) -- is not suitable for most people's retirement income," he says. "It's a little less risk, a little less return, and a lot less retirement."
His firm, Burns Advisory Group in Old Lyme, Conn., tested the endurance of different portfolios against typical retirement withdrawals for a 30-year period. (The withdrawals started at 5 percent of the portfolio in the first year and moved up every year at the average inflation rate. The portfolios were tested using historical data for 26 different rolling 30-year periods, beginning with 1969-1998 and ending with 1975-2004.)
The all-bond portfolio was the big loser; it only lasted 30 full years in three of the 26 periods tested. But the 60/40 mix -- a portfolio made up 60 percent of the Standard & Poor's 500 Stock Index and 40 percent of corporate bonds -- wasn't that much better. It succeeded less than half of the time, lasting 30 years in just 11 of the 26 periods tested.
Even the all-stock portfolio had just a 69 percent success rate when it was invested fully in the big companies that make up the S&P 500. The only portfolio that had a 100 percent success rate was a completely diversified portfolio of stocks that included shares of large and small companies and growth and value companies.
The lesson is not what it seems: Don't put 100 percent of your retirement money into stocks, McGuigan says. You need some bonds and bank savings for short-term security. But he recommends that retirees put as much of their portfolios into diversified stocks as they can stand. Here's how:
• Keep a safe stash. McGuigan tells clients to estimate how much cash they will need to withdraw from their retirement accounts annually and keep five times that amount in bonds and money-market funds. That's an amount that protects clients from the ravages of retiring on the eve of a stock market debacle. It's a cushion.
• Mix up the stocks. With the rest of the portfolio, don't just keep money in big-name companies from the S&P 500. Put some money in small company stocks, value stocks and foreign stocks.
• Mix up the bonds, too. That cushion can be invested in a mix of highly rated bonds and mutual funds that hold bank notes and lower-rated, higher-yielding bonds.
• Be strategic about withdrawals. Don't pull the money you need out of the bond/cash cushion automatically. It may make sense to sell stocks or stock funds for some of the cash, or to use dividends from the stock portfolio for your cash needs. McGuigan tends to sell stocks if stocks have had a run up, and to use the fixed income cushion if stocks are beaten down. It's a subtle way to maintain balance in the portfolio.
• Consider your peace of mind. If the stock-heavy plan makes you nervous, adjust it a little. "Some clients look at us and say 'I can't live with all those stocks' so we make an adjustment," McGuigan says.
Just don't go overboard. Remember the real standard of retirement savings is this: You need to eat well and sleep well. That means invest with enough risk to afford you the withdrawals you need to maintain your lifestyle -- but not so much risk that you are up all night worrying about it.
© 2007, Reuters