Last week, I had a conversation with a recently retired reader that I thought might be applicable to what many retirees are likely to experience at some point in retirement and wanted to share some insights with regard to how you might approach the issue.
Important points from the conversation:
- Earlier this year during the market pullback, the investor sold his entire equity position and invested the proceeds into bonds which he acknowledged was a “knee-jerk reaction” to the market volatility.
- The reader was requesting my opinion of when or how soon (from a timing perspective) he might go about putting the cash back into the market?
- From a more tactical standpoint, he was wondering if he should hang tight and re-evaluate each quarter and if I might offer some guidance for things to watch that might indicate if he is better off standing still?
- Finally, he was looking for specific strategies to consider as to how he may get back into equities.
A few very important additional points with regard to this particular reader based on our multiple communications to this point that I think will make this post all the more relevant.
- This reader appears to have been extremely successful to this point doing everything on his own.
- He seems to be very intelligent and well thought out.
- Based on our conversations, it is clear that he has truly taken the time to educate himself as he exhibits a very high level of knowledge on all things personal finance related.
Below are a few thoughts I had on this discussion.
Emotions & Retirement Planning
With regard to his decision to sell in February: Emotions are difficult to overcome. As the reader indicated, the decision to sell out of equities was a “knee-jerk reaction.” Notice that he did not say that it was a decision that was extremely well thought out due to a variety of circumstances. It wasn’t due to a need for the money - in fact, this reader has made me aware that he has quite a number of philanthropic goals he intends to fill, so his income needs are small relative to the size of his portfolio. Lastly, the decision to sell wasn’t due to a change in life circumstances. It was, as he described, a “knee-jerk reaction.”
One of the reasons that I’ve chosen to work with retirees specifically is because there is so much at risk. One or two mistakes could essentially seal their fate. And one thing I’ve observed over the past decade is that retirees often overestimate their ability to make objective financial decisions and greatly underestimate their proclivity to make emotional decisions. It is natural to be emotional which is a fact that is often overlooked.
A large part of the emotional nature comes with the fact that objectivity is almost impossible when 100% of your success or failure is solely in your hands. In fact, this reader went on to say the following:
“You are spot on about the emotional roller coaster of finding myself in the position that any and all decisions about my portfolio have a higher degree of amplification emotionally. Not that I am any smarter or less, just that things are magnified a great deal in this first, raw year of retirement.”
To his point, once you retire, every 10% downturn feels like it might be the beginning of the end and often the only way to regain confidence is to get out as quickly as possible. It’s a relief to the pain. And oddly enough, selling out is a relief even if it bites you afterward because it simply felt like the right thing to do at the time. This is why having a true retirement income plan is critical to your success, whether you are working with an advisor or not.
Two Portfolios Are Better Than One
That said and perhaps not surprisingly, the piece that opened the lines of communication with this reader was the piece that I wrote for CNBC on the “two portfolio” strategy. The idea behind establishing a purposeful two portfolio retirement strategy is to find a stock allocation that balances how much you can simultaneously financially afford and emotionally withstand regardless of what’s going on in the market at that moment.
By structuring a portfolio in a way that income can be effectively provided for a minimum of 4-10 years through various market cycles, it allows for much more emotional fortitude when dealing with the occasional (even extreme) market volatility. The ultimate goal of this purposeful two portfolio approach is to reduce (and hopefully eliminate) the likelihood of making emotional decisions.
It might seem a little too obvious for a retirement planner to recommend having a portfolio distribution plan for providing income, but I can’t think of a more effective way to make better decisions through all markets.
Market Timing in Disguise
With regard to the tactical questions around when to invest: Many people are quick to say that they aren’t market timers (nobody likes to be labeled as such), but then in the next sentence proceed to ask what I think of the market and whether now is a good time to invest more or to take some chips off the table.
In fact, the question, “What do you think of the market?” is by far the most popular question that I get asked. I just want to be on the record in saying that, “Anything other than establishing a portfolio built specifically for you and sticking with that portfolio is an attempt at market timing.” With the exception of life changes, how could it be anything else?
Given that prelude, when asked for a potential direction for the lump sum, my general thought for someone in that situation would be to put the two portfolio strategy in place right away. Anything other than that is still attempting to time the market which very few (no one) can get right consistently.
The difficulty in trying to time the market comes down to one of my all-time favorite Nick Murrayisms,
“There are no facts about the future.”
Many very smart people have been calling market tops incorrectly since 2010, and yet here we are eight years later still climbing. Surely you remember the term “double-dip recession”. We’re still waiting…
The great benefit and purpose of a two portfolio approach is that it doesn’t require market timing, nor a “feeling” (whatever that means anyway) for where the market is going. It simply requires ongoing decisions as to where we are distributing income from and when to rebalance.
It is for all of these reasons that I don’t think having a feel for where the market currently is or trying to predict which direction it is going is of any value whatsoever. In either case, you bring the very real possibility of disappointment into view. Let’s play it out.
Market Timing in the Real World
If you decide to stay out of the market because of something I (or anyone else says) and the market continues to climb higher, then you’ve missed out on the all-important growth a retiree needs. If you were wary of the market before, how will you feel if it’s even higher? Probably not any better. Then, how do you decide when to invest? This can go on for years. And sometimes, it will never come back to the previous level. Potentially a monumental mistake that is almost impossible to overcome.
On the contrary, if you get back in right away and the market falls, then you’ll have the obvious regret on the other end.
Either way, you’ve set yourself up for disappointment by trying to “outsmart” the market.
I view portfolio management in retirement far more as a one-time allocation decision followed by a series of on-going decisions of understanding where to pull income from and when rather than having a smart-sounding market viewpoint which is destined to be wrong at some point.
That’s not to say that I don’t have a feeling on where I think the market is, I certainly do, but I’m honestly not sure what value it would add to this discussion or any real discussion about retirement planning. The average retirement is a 30-year endeavor. So while I keep my eyes on the market, I can’t imagine a scenario when something in the daily news should cause a retiree to change their strategy once they’ve settled on one that already accounts for the market’s unknowns.
Given that thought process, I wouldn’t know where to start in helping my reader identify the indicators that might be helpful in making the decision to get back in or to stay out. My feeling would plain and simple be to implement the strategy. But it’s not always quite so simple and I recognize that may be outside of some investors comfort zone.
So, if one is hellbent on considering other strategies to get back into the market, I wanted to share a few ideas that I think might help an investor get back into equities in a more comfortable manner. It’s important to note that the goal of having a strategy in this regard is to ensure implementation by removing the emotions that so often accompany investing in the stock market. That said, here are a few strategies.
Possible Strategies to Get Back Into the Market:
I tend to think there are four approaches to getting back into the market if you’ve gotten out. All strategies are assuming that the homework for the proper allocation is already complete.
- Go back in immediately with everything you were wanting to reinvest and don’t look back. Statistically speaking, this strategy leads to the best returns as the market is up about 75% of the time as a general rule. So, logically this makes the most sense and is what I would personally recommend as history is our best (and only) guide.
- Dollar cost average back in based on a pre-determined amount each month until you get to where you want to be over whatever period you want to spend getting there. This would be a reinvestment of the same exact amount each and every month regardless of market activity.
- Dollar cost average back in based on a market-based and rules-based amount each month until you get to where you want to be over whatever period you want to spend getting there. As an example, let’s say that you started with a goal of re-investing $100,000 per month. If the market falls 10%, then you could increase that amount to $150,000 or $200,000 to take advantage of the pullback so to speak. If the market increases or remains flat, then just stick with your $100,000. This can get as complicated as you want it to be or can be relatively simple.
- A combination approach: For example, you may consider reinvesting 50% immediately and dollar cost average the rest using strategy 2 or 3. This is all dependent on what you are most comfortable with.
The goal of each of these strategies is to re-establish a proper portfolio — hopefully toward a strategy that you can stick with throughout your retirement. This reader mentioned a quote that I think is worth mentioning for people that have found themselves in a similar situation:
“Invest down to your sleeping level.”
If you find yourself constantly worried about your portfolio, then it’s likely that establishing a strategy that clearly accounts for the inevitable market volatility could do you a lot of good. We know inherently that making emotional decisions is rarely the right decision and settling on a strategy that gives you the confidence you need to live comfortably in retirement is time well spent.
The reason that I included the pertinent information about the reader is simply to provide an example that retirement planning is hard. This gentleman is smart, financially successful, financially educated and still wasn’t immune to making an emotional decision. It might go without saying, but I believe that every retiree that is relying on their portfolio to provide income should be actively working with a good advisor that specializes in retirement planning. I work with all kinds of people that successfully managed the accumulation phase of their career only to realize that managing assets in retirement is a little more overwhelming than they anticipated and have found that working with an advisor helped to remove their emotions from the decision making process. And this is where a good retirement planner can help. It’s obvious that I am biased in that regard as this is what I do for a living, so please forgive me for being an advocate for my own services.
In any case, if you have had a similar dialogue or have taken similar actions as this gentleman, I hope that you find this post useful. Or if you’d like to talk, visit my About Me page and reach out. I’ll be happy to help answer any questions you may have.
What I’ve Been Reading:
Why Stock Investors Shouldn’t Fear Rising Rates (marketwatch.com)
China Finally Wants More Kids. But There Are Problems (aei.org)
The Curious Case for Emerging Markets (bpsandpieces.com)
Nearly Half of Cellphone Calls Will Be Scams by 2019, Report Says (washingtonpost.com)
World Population Cartogram (ourworldindata.org)
I was interviewed on the “Living with Money” podcast talking about all things retirement recently that you might find enjoyable. Click here to find see a web link to our discussion. Or simply go to the podcast app of your choice, search for “Living with Money” and I am episode 37. I hope you enjoy it!
Thanks for reading!