Reallocation/Repositioning and/or Rebalancing of your Investment and Savings Portfolio If you are getting ready to retire, you may be considering a shift in your savings and/or investment portfolio. This action is referred to as a reallocation or repositioning of your investment and savings. We reallocate so that our savings and/or investments are more closely aligned with our retirement goals. As we approach retirement our investment or savings perspective will change, and we will most likely become more conservative or more moderate, and not take on the same amount of risk as we did when we were younger. This process of reallocation or repositioning to adjust for a change in our personal savings and/or investment profile is what people are speaking of when they talk about reallocation or repositioning their portfolio.
As we approach retirement, we tend to be more averse to the risk of the stock market. Our savings and investment strategy tends to emphasize preservation of savings or principal, with conservative to moderate growth expectations. This change in attitude or perspective is a logical, practical approach, and this shift in risk tolerance, in your ability to live with risk, or not, requires a re-allocation of your portfolio. We all understand it is best when we do not procrastinate, that we make changes, when we need to make them, before it is too late, to avoid negative results. The topic of reallocation or the repositioning of one’s portfolio may serve as an appropriate time to review a simple but important concept: savings vehicles always guarantee your principal and interest. The best vehicles for savings are CDs, treasury notes, treasury bills, treasury bonds, and fixed annuities. These products are designed for savings and for protection of your nest egg. Investment vehicles are market sensitive and never guarantee the return of your principal or any interest. Investment account values go up and down with the stock market and the economy, because that is how they work. The best vehicles for investing are said to be stocks, mutual funds, and variable annuities (the word variable indicates these are market sensitive vehicles). These products are designed for potential, but inherent in that potential for gain is the obvious potential for loss, as well. Hence, any portion of your money that you invest must be a portion of your money with which you can afford to accept a loss in value.
Most people understand the importance of diversification, essentially “not putting all of your eggs in one basket”. In the world of investing and saving, that means a balanced portfolio, a mix of stocks, bonds, mutual funds, cash, CDs, and annuities. As some of our savings and investment choices increase in value while others may decrease, we are all advised to rebalance our portfolio of assets so we maintain diversification. Consider that the rebalancing or reallocation of your portfolio may be as simple as moving 5, 10, 20, 30, 40, even 50% of your portfolio from stocks into bonds, CDs, or annuities. Another option is a reallocation to cash or money market accounts.
Let's look at the hypothetical retirement account for Mr. and Mrs. Smith. The Smiths are a retired couple entering their early 70s. In our example, we see that their portfolio is divided among four different investment or savings choices. We see that the value of their retirement portfolio peaked at $400,000 when the Smiths’ were in their 60s.
Since retiring, the Smiths have continued to make withdrawals from their portfolio, a source of distributions used for living expenses. As a result of their withdrawals, the value of their retirement portfolio is now $350,000.
When the Smiths were in their 30s and 40s, they were 80% in stocks, 10% in cash, and 10% in bonds. In their 50s and 60s, the Smith’s were 10% in cash, 15% in bonds, 25% in annuities, and still 50% in stocks. In retirement however, the Smiths’ were 15% cash, 30% bonds, 25% annuities, and still 30% stocks. The Smiths’ have continued to rebalance, or reallocate their portfolio, according to their risk tolerance and time horizons. As they approached retirement, and finally reached retirement, their portfolio evolved, they have become more moderate, or more conservative, as they could no longer accept the same amount of stock market risk. The following table shows changes in their allocations.
Rebalancing stages for the Smiths' retirement portfolio:
| | 30s and 40s | | 50s and 60s | | 70s and 80s | | | Cash | $10,000 | 10% | $40,000 | 10% | $70,000 | 15% | | Bonds Annuities | $10,000 0 | 10% 0% | $60,000 $100,000 | 15% 25% | $105,000 $87,500 | 30% 25% | | Stocks | $80,000 | 80% | $280,000 | 50% | $125,000 | 30% | | Totals | $100,000 | 100% | $400,000 | 100% | $350,000 | 100% | |
When rebalancing in favor of safety, you may want to consider a laddering strategy for a portion of your portfolio, in order to help you reduce interest rate risk. Investment products may not be a part of the discussion when a laddering strategy is considered, if you are trying to avoid stock market risk.
With laddering, you invest in fixed-term savings options such as CDs, annuities, or T-Bills. When you deposit your savings dollars into different vehicles, with different lengths of maturity, you are mitigating interest rate risk. For example, you may elect to place $10,000 in 1-year T-bills, $10,000 in a 3-year CD, and $10,000 in a 5-year annuity. When each savings or investment vehicle matures, you simply roll over the investment for the longest-existing term (in this example, five years), into a savings option of your choice, perhaps a CD or an annuity.
Hence laddering creates a cycle of savings and investments that mature at different times. When the savings or investment matures, you will review the interest rates at that time, and decide what to do with the proceeds. If you are discussing a laddering strategy, you may also want to discuss an “Income Plan”, which is engineered with the use of annuities, to provide retirement income. Annuities can provide immediate income, and turn your savings into a monthly check.Annuities can reduce stress providing the monthly income you may need to live a more joyous retirement. By reviewing your existing assets you can: A) tell your financial advisor exactly how much income you would like, or B) tell your financial advisor which assets you can freely reposition simply to have more spending money! You could target certain monthly expenses such as a mortgage, or an auto-lease. You could choose to insure your lifestyle, the ability to take vacations, the ability to visit family and friends, to play golf, to do what you want in retirement! A laddering program engineered with annuities is essentially a custom financial program to provide income, growth, and tax efficiency, for a specific number of years, or for the rest of your life. That stream of income is guaranteed. This can be an ideal method by which you can take control of retirement savings. It’s an ideal method by which you are guaranteed never to lose another dime of your retirement savings. You can guarantee that you will always have income, you will never outlive your savings, and you may potentially increase your present income so you will have more money to spend in retirement. Consider reading “Investing Your Lump Sum at Retirement”, a study by the University of Pennsylvania and the Wharton Business School. Click here to read more about this study. Aside from the safety and guarantees associated with income planning utilizing annuities, there are also tax advantages. By utilizing an income plan with tax-deferred annuities you may be able to lower, and in some cases eliminate current federal income tax on your social security benefits. In many cases, you may increase your present income, and have more money to spend. Additionally, annuities avoid probate and the time delays and associated costs of the probate process. In the past, laddering concepts principally involved laddering the maturity of bonds, a planning practice utilized since the inception of bonds. By substituting annuities for bonds, the consumer can avoid the risk of the stock market, and the default and credit risk associated with the purchase of individual bonds. Today, a laddering program utilizing annuities is designed to reallocate existing savings and/or investments into fixed and immediate annuities. When you reposition your currently taxable assets into tax-deferred annuities, your savings grow tax-deferred. You earn interest on your principal, interest on your interest, and interest on the money you would have paid in taxes. You will not receive an annual 1099 on your annuity interest, and may potentially reduce your tax bill significantly. By placing a portion of your savings into immediate annuities, you receive a monthly payment which represents the liquidation of your savings. This monthly payment represents both principal and interest, giving you more income. Your monthly payment has what is known as “an exclusion ratio”, which represents the portion of your monthly annuity payment that is tax free. This exclusion ratio allows one to see how tax-efficient immediate annuities can be.If you were to have an exclusion ratio of 90%, it means 90% of your monthly income would be tax free.In this example a $1,000 monthly payment equates to $900 tax-free. An immediate annuity can be very tax efficient, and may reduce your taxes, and may give you more spendable income each month. The above information is educational and should not be interpreted as financial advice. For advice that is specific to your circumstances, you should consult a financial or tax adviser.
Next, we'll take a look at Social Security benefits. |
