How to Relish the Now While Planning for Retirement
A couple mulls lifestyle changes while also keeping an eye on a portfolio's future growth.
Investing Specialists
Portfolio Makeover Profile
Investors: Karen and Gary | Ages: 54 and 67
Assets: $1,129,973 | Goals: Planning for a Salary Reduction, Long-Term Portfolio Growth
Talk about being blindsided.
Until recently, Karen and Gary were cruising along, looking forward to the day that they could enjoy retirement together. Gary, 67, had already retired from his position as an educator, while Karen, 54, was earning a good salary in her position as an accountant. The couple also enjoyed splitting time between their two homes--one in an urban center and the other in the mountains.
But everything changed overnight when Gary was diagnosed with a late-stage cancer last fall. He began a grueling course of treatment, and Karen began to think about stepping down from her high-pressure, highly paid job. She decided she'd like to spend time with Gary and do some of the things they wanted to do when they both retired, such as traveling around the United States. Karen says she hopes to return to the workforce eventually, but plans to move into a lower-paying, more rewarding position--one that she expects will pay less than half of what she makes now.
In addition, the couple began to wonder about the soundness of their financial plan and how it might evolve over the years. Gary's two pensions and Social Security, combined with Karen's income, allowed them ample funds for everything they want to do, and they're also able to bank a sizable sum each month. But Gary's pensions don't include survivor benefits. That means that their investment portfolio will be Karen's sole support--along with Social Security--if Gary predeceases her, so it has to be built to last.
The Before Portfolio
Karen and Gary's portfolio clocks in at just more than $1 million, but they haven't gotten carried away with too many holdings; their portfolio is a relatively svelte 14 positions. Like many two-earner couples, they hold their money in multiple silos. Karen's 401(k) is their largest account: With more than $500,000 in assets, it emphasizes bonds and the stable-value offering in her plan. Gary's rollover IRA, with about $365,000 in assets, is mainly with Vanguard, where he has emphasized sturdy, core-type stock, bond, and balanced funds. In addition, Karen holds a rollover IRA, and the couple has various cash holdings in taxable accounts.
Taken in aggregate, their asset allocation is quite conservative, with just one third of their assets in stocks and the remainder in bonds and cash. Their equity exposure has a high-quality emphasis--not surprising given that much of their equity exposure comes from the blue-chip-oriented Vanguard Dividend Growth (VDIGX), Vanguard Wellington (VWENX), and Vanguard LifeStrategy Moderate Growth (VSMGX). (The LifeStrategy fund gains its equity exposure via broad market index funds, both U.S. and foreign.) Karen and Gary don't own a dedicated foreign-stock fund, and their portfolio also has minimal exposure to small- and mid-cap stocks.
They also have their real estate holdings as part of their net worth. They own their city home outright and estimate it's worth about $350,000 currently. They have a mortgage of about $280,000 on their mountain home but would like to sell it once the market in that area fully recovers. They anticipate their take-home proceeds from the sale would be approximately $200,000.
Holding Market Value ($) Weight (%) Star Rating Taxable: Cash 101,100 8.95 N/A Gary's Rollover IRA: Janus Flexible Bond (JANFX) 11,889 1.05
The After Portfolio
What's tricky about Karen and Gary's situation is that they're planning for multiple scenarios. In the near term, this couple's budgeting work indicates that Karen can take a break from work without them having to touch any of their assets or clinch the sale of their second home. They can also move forward with their travel plans. Karen also believes she'll be able to avoid tapping their assets even if, in a worst-case scenario, Gary predeceases her and she returns to work in a lower-paying job. Their main residence is paid off, and she'll be free of maintenance expenses on the second property once they sell it.
Because they don't expect to tap their portfolio in the near or even intermediate term, job one is to position their investment portfolio for long-term growth. With just one third of assets in stocks currently, their portfolio is at odds with that goal. Given their current situation, holding an equity position of at least 50% seems only prudent.
Karen's 401(k) and rollover IRA are far too heavily weighted toward bonds and the stable-value option, given that she doesn't expect to touch those funds for another 10 years or more. I targeted a 65% equity weighting for each account. Within her 401(k), I stuck with some of her current positions but tilted much more heavily toward Vanguard Wellington and Vanguard International Growth (VWIGX), which is the sole international fund in her 401(k) lineup, and a good one. I also ramped up the equity piece of Karen's rollover IRA, focusing on low-cost index trackers.
As with previous portfolio makeovers that have called for higher stakes in stocks, I'd suggest that Karen put a higher equity weighting place slowly, during a period of months, to avoid ramping up her position at a poor time. (Dollar-cost averaging will help ensure that she obtains a range of purchase prices for her equity holdings.) If she leaves her job soon, she can roll over her 401(k) assets into the IRA while gradually implementing a higher equity weighting for the combined portfolio.
Because Gary is older and closer to taking required minimum distributions from his portion of the portfolio--and, thus, could tap his assets in a pinch without paying a penalty--Gary's rollover IRA assets can be positioned slightly more conservatively. I targeted 55% in equities with the remainder in bonds and cash. Gary's rollover IRA features many fine funds, but multiasset/hybrid-type vehicles like Vanguard LifeStrategy Moderate Growth and Vanguard Wellington can make rebalancing the portfolio complicated and don't allow him to pick and choose whether to sell stocks or bonds. (I discussed this problem in this article.) I implemented a version of the bucket strategy with this portion of the portfolio, staging it by risk level from conservative to more aggressive.
The combined portfolio gives Karen and Gary enough liquidity to contend with emergency expenses and allows them to splurge on travel, but it also has plenty of long-term growth potential.
Holding Market Value ($) Weight (%) Star Rating Taxable: Cash 101,100 8.95 N/A Gary's Rollover IRA: Cash 40,465 3.58 N/A Gary's Rollover: Vanguard ST Bond Index (VBIRX) 50,000 4.42
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