LUTZ BUSINESS INSIGHTS
portfolio management for retirees during a financial crisis
joe hefflinger, director and investment adviser
The impact of COVID-19 on the financial markets has been nothing short of dramatic. From its all-time high on February 19th, the S&P 500 fell 34% over just a few weeks before rallying off those lows recently. While the impact of the current crisis on our everyday lives is certainly unprecedented in many ways, market drops of this size and speed are not. Bear markets (drops of 20% or more from a recent peak) happen frequently enough (on average, once every six years) that their possibility should be considered in every financial plan.
Obviously, nobody enjoys seeing their net worth take such a hit in such a short period of time. However, for those with many years to go before retirement, they can generally keep adding to their retirement accounts (at discounted share prices) and remain aggressive with their investment allocation as they won’t be tapping into these funds for a long time. On the other hand, for those already in or approaching retirement, managing their portfolio during a financial crisis is far more complex. Times like these demonstrate the vital importance of having a comprehensive financial plan in place that is tailored to your personal needs. Part of any good plan is constructing your portfolio in a manner that takes into account that the markets can and will pull back materially at different points over any sizable period of time.
Keep in mind, however, that retirees could have two to three decades in retirement to invest their money. So there needs to be the appropriate balance between the need for current cash flow and the need for additional growth to protect against outliving your assets. One way to accomplish this is to hold some of your assets in conservative bonds and cash, which provide some cushion against the risk of falling stock prices.
For those approaching or in retirement, we advise following the three-bucket approach in constructing your portfolio. Figure out what you’d like to spend each year. Say this number is $150,000 a year all-in (including taxes, out-of-pocket healthcare costs, etc.). Now figure out what amount of non-portfolio income you have coming in each year (e.g., social security, any pension or deferred compensation, etc.). Say that totals $50,000. That tells us your annual need from the portfolio (your shortfall) is $100,000 a year.
Let’s further say your total portfolio (401k, IRAs, taxable accounts, etc.) is $3,000,000. We advise putting one year of your shortfall needs in cash at the bank ($100k here). We typically like to see another ten years or so of your shortfall needs ($1M here) outside of the stock market, with a large portion of that in a diversified bond portfolio.
The remainder of the portfolio ($1.9M here) could be allocated to equities or some mix of equities and bonds depending on your ultimate goals, objectives and comfort level. The resulting overall allocation, in this case, would land somewhere between 63-37 (stocks to bonds/cash) and say 50-50, again depending on the amount of cushion the client is most comfortable with.
An illustrative example of this three-bucket approach is set forth below.
In a sense, this model takes asset allocation from the theoretical to the practical. Refilling each bucket over time can be adjusted as necessary as conditions warrant. For example, as markets fluctuate, you can evaluate options to potentially re-balance the portfolio as needed to get back to your desired targets.
It’s important to analyze your specific situation within the confines of a comprehensive financial plan. If you run your numbers and you aren’t comfortable with the result, you may be faced with some of the following questions:
- If I’m still working, do I need to push back the age I plan to retire or increase my savings rate?
- Do I need to find ways to reduce the amount I plan on spending annually in retirement (at least until the markets have recovered)?
- If you’re already retired and had planned on delaying social security benefits to age 70, should you consider starting benefits earlier to avoid having to sell stocks at depressed prices to fund your living expenses?
- Do I need to accept more risk (meaning own more stocks) in order to achieve my financial goals?
Some of these adjustments could make sense for you, but it depends on your facts and circumstances. It’s advisable to work with an experienced financial planner to help you analyze the specifics of your situation.
The benefit of the three-bucket model is that you wouldn’t need to touch the funds you have in stocks for over ten years. It’s easier to emotionally handle market pullbacks like we’ve seen when you can look at your portfolio through this lens, making it far more likely that you will stay the course. The key to all of this is not having to sell your stocks at an inopportune time. Currently, for clients that need funds from their portfolio, we will typically be selling their bonds and holding onto their stocks so they can participate in the ultimate recovery. And while it’s true that bonds can be volatile at times as well, historically they have been much less so than stocks. In times like these, having a solid financial plan in place (and sticking to it) is essential to maintaining a successful portfolio over the entirety of your retirement years.
Important Disclosure Information
Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Lutz Financial), or any non-investment related content, made reference to directly or indirectly in this newsletter will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this newsletter serves as the receipt of, or as a substitute for, personalized investment advice from Lutz Financial. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. Lutz Financial is neither a law firm nor a certified public accounting firm and no portion of the newsletter content should be construed as legal or accounting advice. A copy of the Lutz Financial’s current written disclosure statement discussing our advisory services and fees is available upon request.
ABOUT THE AUTHOR
JOE HEFFLINGER, JD, CFP®, CAP® + DIRECTOR & INVESTMENT ADVISER
Joe Hefflinger is an Investment Adviser and Director at Lutz Financial. With 15+ years of relevant experience, he specializes in comprehensive financial planning and investment advisory services for professionals, business owners, and retirees. He lives in Omaha, NE, with his wife Kim, and daughters Lily and Jolie.
AREAS OF FOCUS
- Retirement Cash Flow Planning
- Insurance Planning
- Estate Planning
- Business Owner Exit Planning
- Charitable Planning
- Tax Planning
AFFILIATIONS AND CREDENTIALS
- National Association of Personal Financial Advisors, Member
- Financial Planning Association, Member
- Nebraska State Bar Association, Member
- Omaha Estate Planning Council, Member
- CERTIFIED FINANCIAL PLANNER™
- Chartered Advisor in Philanthropy®
- JD, Creighton University School of Law, Omaha, NE
- BS in Economics, Santa Clara University, Santa Clara, CA
- Partnership 4 Kids - Past Board Member
- Omaha Venture Group, Member
- Christ the King Sports Club, Member
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