See Week 1 tips | See Week 2 tips | See Week 3 tips
Day 18: Use a "bucketing" system when constructing your retirement portfolio
Degree of difficulty: Moderate to difficult
One of the most daunting aspects of managing your finances is figuring out how to transition from accumulation mode into retirement, or "harvest" mode.
One intuitive way to construct a retirement portfolio is to create various buckets of money based on when you expect to tap them for living expenses. Bucket number one contains living expenses for the next two to five years, and therefore should consist of highly liquid investments. This is money you can't afford to lose.
Bucket number two should be positioned for living expenses in years five through 15, and therefore you can affort to take on slightly more risk. Intermediate-term bond funds and even conservative equity funds or balanced funds are good choices for the intermediate sleeve of your retirement portfolio.
Those assets you don't expect to tap for at least 15 years can be stashed in equities and equity funds. Because you've established you have a fairly long time horizon for this money, you won't be unduly upset if the stock market has periodic hiccups.
Day 19: Look for opportunities to streamline
Degree of difficulty: Moderate
We've tackled a lot of tasks in the first three weeks of our financial fitness regimen, including finding our baselines and getting organised (Week 1), identifying appropriate investments for short- and intermediate-term goals (Week 2), and implementing strategies for running an effective long-term portfolio (Week 3).
If you haven't been following along since the start of our 30-day financial fitness programme, no worries--you should feel free to tackle these tasks at your own pace and pick off the ones that seem most important to you right now.
In the fourth week on the road to financial fitness, I'll share more tips for investing well before and during retirement, as well as strategies for keeping your portfolio on the right track through varying market environments.
Today's task is one that's relevant to investors of all ages and of all life stages: combating portfolio sprawl.
Diversification is a good thing, of course, but you can also overdo it. It requires time and research to keep track of important developments at stocks and funds, and that task is compounded when you have many different accounts. (The paperwork coming into your house can also get ugly.) And the more investments you have, the greater the likelihood that your portfolio will behave like the market. There's nothing inherently wrong with market-like performance--just ask the Bogleheads--but you don't want to have to pay active management fees when an index fund would have done the job just as well.
So what are some strategies for beating back the sprawl? Index funds and exchange-traded funds that track a broad market segment are a good place to start if you're trying to streamline your financial life.
Alternatively, you could take advantage of all-in-one options, either by using a target-date fund or a stock/bond hybrid fund. And if you're managing multiple accounts geared towards a single goal--for example, you and your spouse each have personal pension plans and ISAs, as well as taxable assets earmarked for retirement--think of them as a single entity rather than running each account as a well-diversified whole. Doing so gives you the freedom to pack a significant share of your assets into the best investments available to you within each account. Use Morningstar's Instant X-Ray tool to make sure the whole portfolio is diversified and that the asset allocation is in line with your target.
Day 20: Prepare for retirement
Degree of difficulty: Moderate
Whether retirement is upon you or it's a distant dot on the horizon, it's an important stage of your financial life that needs addressing and the sooner the better. Did you know, for example, that if you are 30 years old, receive a monthly salary payment, and expect to retire at 65, that you only have 420 pay days left to save for retirement? A scary thought. And that conventional wisdom calculates that the same 30-year-old needs to put aside 15% of their annual salary each year for the next 35 years to ensure that they have 50% of their final salary available post-retirement. And whether this 50% figure is going to allow you to retire in the style to which you've become accustomed is another topic that needs your consideration. With these thoughts ringing in my head, I have put together a list of Morningstar's top ten pensions and retirement articles, which are aimed at helping both new and seasoned investors make informed decisions about preparing for retirement...no matter how near or far away it seems.
When it comes to setting up or reviewing your pension plan, whether you have a company pension or a personal pension, don't forget that while most pension providers will automatically direct your contributions to a default fund, each investor's goals and retirement needs are different and it is highly advisable that you assess your risk appetite and adjust your pension fund accordingly. A 55-year-old who is looking forward to spending their retirement years in a quiet country garden will have a very different investment strategy to a 25-year-old who doesn't yet know what retirement will bring but hopes it will include plenty of round-the-world cruises and octogenarian bungee-jumps.
When it comes to digging down into the funds on offer, Morningstar's fund reports provide a huge amount of information on thousands of funds. Our Fund Quickrank allows you to search funds by category, Morningstar qualitative rating, performance, fees, and so on, while our Fund Screener helps you search for funds according to your personal criteria. You can also take advantage of our free Portfolio Manager tool to create and track your portfolio (real or imagined).
The ten articles listed below can help you address you pension and retirement needs. You may also want to search our article archive or check out the lessons in our Learning Centre.
1. Morningstar supports Financial Planning Week: Last year we supported the Institute of Financial Planning's initiative to raise awareness of the need to assess financial goals. This article contains links to plenty of financial planning-related content, daily polls, quizzes and case studies, based around five daily themes of Young, Free & Single, Making Commitments, Young Families, Making Choices and In Retirement.
2. The 80% myth: Morningstar's John Rekenthaler looks at whether we really "need" to be aiming for 80% of our pre-retirement income to live on and points out that many live happily on much less.
3. Tips for investors just starting out: An introductory explanation of some of the best ways to begin investing
4. Are you taking too much (or too little) risk? By assessing your pain threshold early on, investors should be able to improve their overall return records
5. Lessons from the lost decade in stocks: Hidden in the relatively poor returns of the past ten years are some rich lessons for the future.
6. Why diversification still matters: Although tested mightily in the bear market, a diversified portfolio is less risky than one that's concentrated in one area of the market
7. Good funds can make a bad portfolio: We take a look at five investor mistakes and suggest solutions to ensure you make better investment decisions
8. Portfolio rebalancing made easy: Your step-by-step guide to restoring your asset allocation
9. Keeping tabs on your portfolio: Make sure you're looking at more than just performance--skewed asset allocation, rising fees and management changes are all important
10. In retirement? Don't turn a blind eye to the threats that can erode the value of your portfolio over the long term.
Day 21: See if you're on the right track for retirement savings
Degree of difficulty: Moderate
Most of the tasks in our 30-day financial fitness regimen have centred around helping you get your investment programme up and running. But once you do, it's essential that you periodically check in to make sure that your portfolio is on track to help you meet your goals.
A handy way to gauge whether you're making realistic assumptions is to use a pension calculator or retirment income calculator. You can find plenty of useful calculators online, such as Scottish Widow's pension calculator, but this retirement income calculator from T. Rowe Price the US is one of the most comprehensive. Unlike many simpler tools, T. Rowe Price's calculator takes into account your asset allocation--both current and in retirement. The calcuations are in US dollars and some of the questions refer to US-specific products such Roth IRAs but read the dollar sign as a pound sign and assume Roth IRAs/401(k)s questions refer to ISAs, pension plans and other investment vehicles and you'll still get a very helpful gauge of whether your portfolio in its current incarnation will support your desired level of income.
Enter your portfolio into our Portfolio Manager or use the Morningstar Instant X-Ray to review your assumptions and allocations using your actual holdings. If all these tools point to a probable outcome that you don't find acceptable, you can then tinker with the variables, opting to save more, retire later, hold more in stocks, and so forth.
The bottom line with all of these tools is that they help you assess whether your portfolio can realistically support your goals. And the sooner you make that determination, the better positioned you will be to make changes so you don't fall short.
Day 22: Get a plan for your retirement portfolio
Degree of difficulty: Moderate
Amassing enough assets to retire is the heaviest lifting that any of us will do in our investing lives. But even after you've cleared that hurdle, it's still important to have a plan for managing your assets during retirement.
Because encountering a bear market early in your retirement years can have a devastating impact on portfolios that are too aggressively positioned, it's important to have a sizable dose of bonds and cash by the time you retire. But because no one can predict the future, there's no right answer about how much any of us should have in stocks, bonds, and cash. There's a raft of information online, including in our article archive, on asset allocation, though you may also opt to consult an independent financial adviser to help decide on the best allocation for you based on your expected retirement date and risk tolerance.
Another key task for retirees and pre-retirees is to determine a realistic portfolio withdrawal rate. Yesterday's task coached you on using online tools to help answer this question, and Christine Benz's book also includes a chapter on how to calculate your optimal retirement withdrawal rate.
Finally, if you've saved for retirement in various accounts--and most of us have--your retirement portfolio strategy must also include a plan for tapping those assets. As a general rule of thumb, you'll want to tap your taxable accounts first, before you start making withdrawals from tax-sheltered products such as ISAs.
