Once you cover your necessities with fixed income you can afford a little excitement.
“My wife and I are 80 and 81.
“Our investments are not used for regular living expenses; Social Security and pensions cover that. We use our investments for things like travel or, for instance, to purchase our car recently.
“I know the portfolio is risky but have always been a fan of dividend stocks and have reasoned that if the stock prices fall I will still receive dividends until prices recover.
“I feel a need to protect more of the portfolio from the uncertainties ahead and so would welcome your suggestions. The entire portfolio is valued around $375,000 and here it is.”
Harold, Florida
My answer:
I like your approach to spending. I don’t like your stocks.
It seems that you have, by instinct, come up with a safe way to spend down assets that experts get to only after complex analysis.
Here’s the fundamental insight about retirement spending that you have arrived at:
If your fixed costs are covered by fixed income, you can handle a lot of risk in the rest of your retirement.
The experts use something called the 4% rule. It says you can start your retirement by spending 4% of your assets, then increase the dollar amount every year to keep up with inflation. With this formula, they say, you can be pretty sure of not outliving your savings.
And then, since 4% seems chintzy, they offer variations that allow you to spend more so long as you have some flexibility to cut back when the stock market crashes. These variations have you calculating “guardrails” that lower the dollar withdrawals during bad times, but only by so much.
I favor a simpler approach. Spend a certain percentage of assets every year, not a certain dollar amount. This way you can live more. That seems to be what you’re doing.
My percentage formula starts out at 4% for a 67-year-old and then goes up every year by a quarter of a percentage point. At 81, you can spend 7.5%. That means you can spend $28,000 this year from your savings. At 91 you should spend 10% of whatever’s left.
You won’t ever run out. You will, of course, have a lot of uncertainty. If the market stays high, you buy a car or go to Europe. If it crashes, you don’t.
But you can live with this uncertainty, because you have your base costs covered with pensions and Social Security. Your portfolio is fun money.
Now, about how it’s invested. More than half is in funds: Vanguard Wellesley Income, Vanguard Dividend Growth and Fidelity 500 Index. They are all decent choices. I especially like the Fidelity one because its fee is tiny (0.015% a year).
Then you have a dozen stocks. Yuk.
All but one sport very high dividends. Like a lot of retirees, you gravitate toward dividend payers either for the cash flow or for the comfort they provide when the market goes south.
But do dividends really make investing safe? Three of your stocks are tobacco stocks. Is that concentration safe? You’ve got money in a flyspeck high-beta mortgage company (Sachem Capital). Is that safe? You’re investing in gambling parlors (Vici Properties); did you even know that?
The Vanguard dividend fund is a better bet. Dividends do provide a little bit of stability. The stodgy blue chips Dividend Growth owns (like Colgate-Palmolive and Procter & Gamble) are less volatile than the average big stock. Over the past decade, Morningstar reports, this fund’s standard deviation has been 11.8% a year, versus 13.2% for the Fidelity 500 fund. But its return of 13.5% a year is also lower. The 500 fund did 14.6%.
As for the cash coming from dividends: You don’t need that. You can get cash by selling fund shares.
If your portfolio is inside an IRA, I recommend cleaning it up immediately. Put the whole $375,000 into a single fund. For 100% stock exposure, move your account to Fidelity and use the index fund you already have. For a more subdued roller-coaster ride, move assets to Vanguard and buy the Vanguard Balanced Index fund. That index fund mixes stocks and bonds.
If the money is in a taxable account, the transition to a less cluttered portfolio will be a little trickier. You’ll have to be wary of capital gain tax on selling some of your positions. But there’s no tax if you keep your taxable income below $83,350. That figure corresponds in your case to roughly $118,000 of total income (gains plus dividends plus pensions plus Social Security).
One other thing. If you are paying an advisor 1% a year to oversee this portfolio, fire that person. Use the savings to take your grandkids to Disney World.
Do you have a personal finance puzzle that might be worth a look? It could involve, for example, pension lump sums, estate planning, employee options or annuities. Send a description to williambaldwinfinance—at—gmail—dot—com. Put “Query” in the subject field. Include a first name and a state of residence. Include enough detail to generate a useful analysis.
Letters will be edited for clarity and brevity; only some will be selected; the answers are intended to be educational and not a substitute for professional advice.
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