Retirement Planning: Closer Than You Think

Sea Gull

Too many young folks think retirement is so far in the future it does not merit current attention.  From experience I can tell you that retirement arrives sooner than you realize, particularly if you are not properly prepared.  Once more, check out The Golden Rule of Investing.  If I want to scare myself into saving more I reread the following William Bernstein quote.

“Each dollar you do not save at 25 will mean two inflation-adjusted dollars that you will need to save if you start at age 35, four if you begin at 45, and eight if you start at 55. In practice, if you lack substantial savings at 45, you are in serious trouble. Since a 25-year-old should be saving at least 10 percent of his or her salary, this means that a 45-year-old will need to save nearly half of his or her salary. Most 45-year-olds will find this nearly impossible, if for no other reason than the necessity of paying living expenses, payroll taxes, and income taxes.”  Does anyone need more motivation than these words?

How do you analyze if you are in good shape and ready for retirement?  If you are 45 years old and save $1,000 per month will the Bohr Portfolio permit you to retire at age 66?  Assume inflation will be 3.5% over the rest of your working life.

QPP Projections:  The following portfolio assumes the S&P 500 will grow at an annual rate of 7.0%.  The Bohr is projected to exceed the S&P by nearly 100 basis points – our goal.  We are taking on more risk at 15.9% as we prefer to come in under 15%.  The diversification metric is a solid 43%.  Can we make it through our retirement years with this portfolio?



Retirement Outlook:  The Bohr Portfolio holds a little over $250,000 so I used that value for these projections.  This 45-year old is saving $12,000 per year and expect to retire at age 66 and pull $60,000 per year from this portfolio.  The following Monte Carlo calculation does not look all that good as this individual has a 50% probability of running out of money by age 84.  Even the 10% probability of coming up short at age 73 is troublesome.

There are not too many options available to change this familiar situation.  1)  Work longer.  2) Save more per year.  This option has its limits.  3) Plan on living on less.  This is possible if this investor will have a pension and social security remains sound.  I have more confidence in SS than most folks I talk with as there is a very simple one line solution to Social Security.  REMOVE THE CAP and do nothing else.  Yes, this will impact the very wealthy, but they have been reaping the benefits of our twisted tax structure for many years.  4) Rework the portfolio to take on more risk.  This could be harmful, depending on the market conditions at retirement.  Shortly after I retired, I took a 50% hit (actually closer to 60%) with our portfolios.  I did not panic and was able to weather the bear market even with rather risky portfolios.  However, I don’t want to go through that again as I experienced four major bear markets over my investing lifetime.  Now you may have a greater appreciation why I have a vested interest in the Momentum-Optimization Model (MOM) as a risk reduction plan of action.

Looking over the following screenshot, I recommend the Bohr Portfolio investor take some action to alter the probability of running “dry” before age 100, the number I use for life expectancy.


Photograph:  The above photograph was captured at Ocean City, Maryland.  I kept throwing bread crumbs into the bay and continued to shoot with my old fixed lens Olympus until I finally came up with an image close to what I wanted.  You can see other bits of bread on the water surface.

Retirement Portfolio: A Possible Asset Allocation

Beginning with 100 shares in each of 40 ETFs, the Efficient Frontier and Buy-Hold-Sell recommendations are presented for a portfolio with constraints set to tilt the asset allocation toward bonds and more conservative investments.

This information is not available for publication elsewhere on the Internet.

Efficient Frontier:  Allocating 100 shares to each ETF sets up a portfolio that is less than efficient.  At least the possible returns are stunted.  Even if the Return/Risk coordinates are pushed up along the EF graph, this is going to end up being a conservative portfolio due to the constraints placed on both asset classes and individual ETFs.


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Sample Retirement Portfolio

The following portfolio is one suggested by a Platinum member.  The first screenshot shows the original asset allocation.  For reference, the assumed growth for the S&P 500 is 7% annually.  Should I ever forget to include this assumption, readers can check by looking at the bottom right section (gray background) to see the projected return and projected standard deviation.  The time frame is found under Historical Data section.  Those are the two key assumptions when creating a QPP analysis.

The following material is not available for publication elsewhere on the Internet.

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Retirement Portfolio: Part Five

If one is willing to add a few individual stocks to a sample retirement portfolio, what does the allocation look like when optimized?  In the following portfolio I added several ETFs to what one might consider the basic group.  These include SLV, DVY, and IDV where the latter two are dividend generators.

Special Note:  The assumed growth rate of the S&P 500 was lowered from 7.0% to 6.0% for this analysis.

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Retirement Portfolio: Part Four

Part four in this series of blogs on retirement confines the portfolio to ten critical ETFs.  Before I go further, let me point out to Platinum readers that this is a new Excel™ spreadsheet that comes from Peter Hoadley of Australia.  I am new to this spreadsheet and as readers can see, I do not have the correct entries for all the “Asset Groupings.”

The critical ETFs are:  VTI, IWN, VEU, VWO, VNQ, RWX, GTU, DBC, PCY, AND BIV.  Readers can debate whether or not these are the critical ETFs, but they are the ones I selected for a basic retirement portfolio.

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Retirement Portfolio: Part Three

Part three of this series of retirement preparations shows how one might optimize the array of ETFs presented in the earlier two blog posts.  In the following screen shot I set up a number of constraints and one was to hold the Diversification Metric to the 40% standard.  I also included BND, Vanguard’s Total Bond ETF in the mix of investments.  Even by forcing none of the bonds to hold more than 4.0%, I managed to come up with a DM of 40%, although it did temper the projected return.

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Retirement Portfolio: Part Two

As pointed out in this blog post, one first selects asset classes for a retirement portfolio.  Then comes the difficult part of selecting what percentage to allocate to each ETF or asset class.  Below is a basic allocation that is not optimized.  In a later post I will run through an optimization of this set of ETFs to see if the projected return can be enhanced and still lower projected risk.

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Retirement Portfolio: What Are The Essential Asset Classes To Include?

A request came in from an ITA reader to put together a retirement portfolio that does not need to produce income since social security and a pension will cover those needs.  In other words, what should the retirement portfolio plan look like?  The first guideline is that this portfolio not include any individual stocks as that lays on an additional level of analysis.  I suspect most investors who select only individual stocks do not have a Strategic Asset Allocation plan, at least to the degree discussed throughout this blog.

The first step in building a retirement portfolio is to select the essential asset classes.  Here are the basic ETFs I include in nearly every portfolio, regardless whether it is a retirement portfolio or a portfolio for a thirty-year old.  This is particularly true if a portfolio that does not need to throw off income.

The following material is not available for publication elsewhere on the Internet.

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Retirement Mistake #5: Underestimating Life Expectancy

Not only are we living longer, but we are living healthier lives.  When planning for retirement, what age should one project as the end-of-life year?  When running out retirement projections using the Monte Carlo calculations within the Quantext Portfolio Planner software, I use 100 as the end-of-life year when testing the probability of running out of money.  There are many assumptions that go into this calculation,  Here are a few.

  • Projected retirement age
  • Current portfolio value
  • Construction of portfolio
  • Inflation rate
  • Projected growth rate of S&P 500
  • Required income during retirement years
  • Level of acceptable risk

To view what a projection might look like, we can take the recent portfolio we are using in the optimization study.

Assumptions:  Here is a screenshot of the basic assumptions used for this calculation.

ITA 07 Feb. 08 03.19

Projections:  Based on the portfolio we have been using for the optimization study, below is the Monte Carlo calculation for retirement.  Note the 50% chance of running out of money by age 96.  Using the life expectancy age of 100, this portfolio is cutting it a little close.  I prefer to not push poverty by seeing a 20% to 30% chance of coming up short by age 100.  This portfolio, with the associated assumptions, is not too far off the mark.

ITA 06 Feb. 08 03.18

Retirement Mistake #4: Overestimating Portfolio Return

Historically, the U.S. Stock Market has returned about 7% annually in excess of inflation.  Is this likely to continue?  Real earnings come from dividends, dividend growth, and P/E expansion.  Projecting future returns to match the historical level, which included one of the longest bull markets from August of 1982 through March of 2000 is not likely to be duplicated in the near future.  Further, dividend yields are below historical levels and P/E expansion is expected to slow.  When projecting S&P 500 growth rates, I am currently using 7.0% and that is likely high.  Six percent (6%) might be a more realistic figure.

This all sums up to retirement projections coming up short of the goal.  The solutions are rather grim if the growth rate of the market slows.

  • Save more.
  • Work longer.
  • Plan to live on less.
  • Take on a part-time job in retirement.
  • Hope for an inheritance.

While we use history as a guide, don’t plan on stock market returns repeating the performance of the last 50 years.  It is a mistake to do so.  Plan conservatively.  This includes future expenditures as well as the amount needed to be saved to meet retirement goals.