Skip to main content
Message Font: Serif | Sans-Serif
 
No. of Recommendations: 1
I have a friend in an unusual position.

My friend has about $500K that he needs to last for the next 11 years. Some of the money is in the stock market. He is no longer earning substantial income, and is feeling nervous about the market, so wants to move this $500K into something "safer". He wants to be able to count on an inflation-adjusted $50K withdrawal every year for the next 11 years from that $500K. So for example, next year he will pull out $50K, the following year it will be $50K+inflation adjustment for that year, etc.

Details:

$350K of the amount is in a Fidelity 401K, so he is limited in where that money can be invested. He cannot touch this money for another 4 years, at which point he can take it out if needed.

$150K is liquid.

He is very keen on using "safe" investment vehicles - i.e. he's not so concerned with the return as he is on making sure he does not lose the principle in some disastrous event, such as the stock market tanking or some bank going belly-up.

Originally, he was planning on doing a CD ladder within his 401K. However, he told me that he learned that the CD ladders (brokered CD ladders?) within his 401K do not protect the principal. So he was thinking of putting the $150K into some bank's CD ladders, but otherwise is not so sure what to do with the $350K in his 401K. TIPS maybe? Or maybe it makes sense to park that amount in a money market, then withdraw it all in 4 years, and invest in a normal CD ladder at that time?

I can't really give advice here, because my strategy has always been to take more risk and hope for the best.

Does anyone have advice for safer investment vehicles that are pretty well guaranteed to protect the principal, with maybe some small return? Inside/outside a 401K?
Print the post Back To Top
No. of Recommendations: 0
PS I meant to title the thread "safe investment", oops.
Print the post Back To Top
No. of Recommendations: 0
Money Market?
Print the post Back To Top
No. of Recommendations: 6
My friend has about $500K that he needs to last for the next 11 years. Some of the money is in the stock market. He is no longer earning substantial income, and is feeling nervous about the market, so wants to move this $500K into something "safer". He wants to be able to count on an inflation-adjusted $50K withdrawal every year for the next 11 years from that $500K. So for example, next year he will pull out $50K, the following year it will be $50K+inflation adjustment for that year, etc.

So, without any inflation adjustment, he wants to take $550k out of a $500k investment. That means that he needs to have at least 1.625% rate of return on his money for the next 11 years. Adding in a 3% inflation rate, he would need to take out just over $640k, which would require a 4.15% rate of return.

He is very keen on using "safe" investment vehicles - i.e. he's not so concerned with the return as he is on making sure he does not lose the principle in some disastrous event, such as the stock market tanking or some bank going belly-up.

He can't accomplish both of his goals. 'Safe' (i.e. Treasury bonds and/or FDIC insured accounts) investments are returning even less than the 1.625% he would need just to get 11 years of a $50k withdrawal out of a $500k investment. If he adds in inflation adjustments, there will be even more of a shortfall.

He needs to decrease the amount he needs to take out or he needs to invest in something more risky if he wants to make his $500k last 11 years with inflation-adjusted withdrawals.

AJ
Print the post Back To Top
No. of Recommendations: 0
Thanks for the replies.

So, no one is doing CD ladders out there?
Print the post Back To Top
No. of Recommendations: 1
Rocannon,

"So, no one is doing CD ladders out there?"

We don't.

We keep about 1 year of living expenses in passbook savings.

We keep another 2 years split between 2 Roth IRA's at 4.5%.

The rest of our cash is opportunity cash in brokerage accounts in money market.

Our portfolio is 85.8% stock and 14.2% cash/bonds/interest bearing.

I do have a question: What is the importance of 11 years? What happens then?


Gene
All holdings and some stats on my profile page
http://my.fool.com/profile/gdett2/info.aspx
Print the post Back To Top
No. of Recommendations: 0
Hi Gene,

We keep another 2 years split between 2 Roth IRA's at 4.5%.

What's giving you a 4.5% return in your Roth IRA? Do you have any concerns about loss of principle in these investment(s)? Is that in the area described as "Top 10 Income Producers" in your profile?

I do have a question: What is the importance of 11 years? What happens then?

In 11 years, the dude has a pension and social security that will fund him going forward.

Rocannon
Print the post Back To Top
No. of Recommendations: 1
Rocannon,

Those 2 Roth IRA's are our original(1982) traditional IRA's with USAA Life Insurance. They are non-annuitized, annuities. They simply pay daily interest at 4.5% APR as the contract minimum. I converted them to Roth. They started over 13% APR and slowly wound down to the minimum in the mid 90's. I'm not concerned about loss of capital with them.

Most of the cash in them is actually investing cash that I use during a down-turn. We have one day access to the money. No fees of any kind.

The only limitation is we are limited to about $23K in annual deposits so I can't just sweep a large amount of cash into them. I can take out as much as I want however. In Dec 2008, I took them both down to $500 remaining to invest in stock.

Yes, as a position in our portfolio, they currently pay the most "income" in our portfolio.

"In 11 years, the dude has a pension and social security that will fund him going forward."

Going to an all cash-type portfolio just seems a bit extreme. It totally cuts off growth of any kind. An ETF portfolio of VOO, VO, VNQ, IWC and BIV could be tailored to provide some growth and some income. Some selective sales would provide the remainder of the necessary cash.

The real secret to living on investments is to leave them invested. We have the 3 year cash cushion I mentioned that is dedicated to our living expenses. It will not be invested. During a down-turn, like the 2007 to 2009 event, we lived on the cushion, took it down to about 1 year remaining. When things recovered, it was replenished. We didn't sell anything at depressed prices, which can do great harm to a portfolio. Some people use a CD ladder for their cash cushion.

Does that help you?

Gene
All holdings and some stats on my profile page
http://my.fool.com/profile/gdett2/info.aspx
Print the post Back To Top
No. of Recommendations: 3
In 11 years, the dude has a pension and social security that will fund him going forward.

Even if the pension is inflation adjusted (many aren't), it's unlikely that the combination of pension and social security income will keep up with inflation going forward, because inflation adjustments often don't keep up with actual personal inflation. If the pension is not inflation-adjusted, the combination of the 2 won't keep up with inflation. If he's not planning on using some of his savings once he starts getting the pension and SS, he's probably going to have a declining lifestyle.

To me, it looks like someone who has convinced themselves that they are ready to retire early, when they really aren't.

AJ
Print the post Back To Top
No. of Recommendations: 0
Gene,

Going to an all cash-type portfolio just seems a bit extreme... The real secret to living on investments is to leave them invested

I agree, but it's not me with the funds, it's a friend of mine, and he has his own ideas and safety level. He was originally looking at CD ladders, but the indications are that you can lose principle if you do that in a 401K, so he was looking for alternatives. I thought this board might have alternate suggestions.

His main concern is a fear that the money he needs some time in the next 11 years will be gone when he absolutely needs it, if he leaves it where it is. He has a chunk of the money in stock indexes, but if it goes down by 50% or some such thing, and doesn't recover for 10 years, he'd be in trouble with his current portfolio, I think. I haven't looked at it, but that's how it sounded.

Anyway, I don't exactly have this concern myself - in the sense that I'll just have to figure out what to do if the stock market goes down like that. It will not be pretty, but the alternative (not investing in stocks) is also not pretty.

Does that help you?

Well - you mentioned annuities. I have also not investigated annuities ever. But in fact, my mom has an annuity via TIAA-CREF and it has been pretty good for her, so I will mention that to him as a research area. With all the usual caveats about annuities.

During a down-turn, like the 2007 to 2009 event, we lived on the cushion, took it down to about 1 year remaining. When things recovered, it was replenished.

So you had a cash cushion of about a year, and what if the market had not recovered but had slumped for say another 5 years? 10 years? This is what concerns him.

Rocannon
Print the post Back To Top
No. of Recommendations: 0
AJ,

To me, it looks like someone who has convinced themselves that they are ready to retire early, when they really aren't.

I know several people who appear to be doing just fine on their pensions + social security. Sometimes I think I made a mistake going the route that I took. Anyway, that is something for him to figure out.

Rocannon
Print the post Back To Top
No. of Recommendations: 0
Rocannon,

"So you had a cash cushion of about a year, and what if the market had not recovered but had slumped for say another 5 years? 10 years? This is what concerns him."

Not exactly ...

In June 2007, I made a sale and topped-off our 3 year cash cushion. In October 2010, we had about 1 year of cash left and I made the first sale since 2007 to start replenishing the cushion back to 3 years of planned expenses.

I did take the dividends from our joint account. That was about 10% of our dividends with the bulk being in our IRA's. Did not want to take money from the IRA's because of the 10% penalties and did not want to mess with 72t schedules or other things.

A number of sources recommend a 3 to 5 year cash cushion of actual cash or part cash and near cash. Near cash can be bonds. Bond funds can be used for the last year or 2 of a five year cushion but they are susceptible to capital loss during a down-turn.

I agree with AJ that this seems to be a plan on a shoestring. When we retired, I made a bullet-proof plan and ran it across every planning guide I could. I did want to have my wife and I out trying to pickup jobs for grocery money.

Does that help you?

Gene
All holdings and some stats on my profile page
http://my.fool.com/profile/gdett2/info.aspx
Print the post Back To Top
No. of Recommendations: 0
Gene,

I made a bullet-proof plan and ran it across every planning guide I could. I did want to have my wife and I out trying to pickup jobs for grocery money

Well if you're anything like me, it's health insurance premiums that you'll need to take pickup jobs to pay for. I suspect it's the same for my friend. I asked him but he doesn't track his expenses well. He has a ballpark estimate of how much he spends every year, which I believe is about $40K.

My friend told me that he's worried about the particular scenario of a downturn in the stock market with no recovery for many, many years. This worry is enough to drive him out of the market.

What would you do if the stock market went south for 10 years or more?

While I think this is unlikely, I cannot tell him that it is impossible.

Rocannon
PS My friend told me that his pension is indeed inflation-adjusted. Also I mentioned to him that he may want to create a login here if he wants to give more details or get more answers.
Print the post Back To Top
No. of Recommendations: 3
My friend told me that he's worried about the particular scenario of a downturn in the stock market with no recovery for many, many years. This worry is enough to drive him out of the market.

What would you do if the stock market went south for 10 years or more?
-- Rocannon

And THAT is one reason why most people never become independently wealthy. Fear. Based on "what if's" that have never happened before. And a reluctance to be flexible and adaptable.

I recently saw an article warning of a potentially impending explosion of the Yellowstone caldera. Could happen! Should we stop what we're doing in anticipation? Certainly (in my mind) an extreme example, but I hope my point is clear.

;)

Rob
He is no fool who gives what he cannot keep to gain what he cannot lose.
Print the post Back To Top
No. of Recommendations: 3
Rocannon,

"What would you do if the stock market went south for 10 years or more?"

While I don't see this as other than a very remote possibility, our total cash today, 3 years in the cushion plus a bit over 5 years in investment cash can carry us for a while. I sold-off a position over the past few weeks, reducing our dividend coverage of expenses to 104% of planned expenses. Add our SSA in and we will do fine.

If the government goes belly-up for some reason, the stock market devolves to nothing and the city hoards come out here foraging for food, we can climb up our little mountain and hold them off from the crater.

It doesn't matter what happens, DW and I will make do. We have for 44 years so far through lots of ups and downs. Neither of us fear the future. We prepare for it and roll with the punches.

Gene
All holdings and some stats on my profile page
http://my.fool.com/profile/gdett2/info.aspx
Print the post Back To Top
No. of Recommendations: 0
My friend has about $500K that he needs to last for the next 11 years...He wants to be able to count on an inflation-adjusted $50K withdrawal every year for the next 11 years from that $500K...
Does anyone have advice for safer investment vehicles that are pretty well guaranteed to protect the principal, with maybe some small return?


There might be an annuity-type product that would give a 10% payout for 11 years. Because the issuing company is almost certain to make out better than your friend by taking that risk, one might issue such a financial product. It might be required to start withdrawals in one year rather than immediately, and pay high fees, plus there's a 100% chance the money will be gone regardless of what stock/bond/whatever markets do. But if your friend wants to pay through the nose to remove all market risk, have a look. (Of course, there's risk in the solvency of the issuing company, right?)

I know that there are annuities for various terms, and maybe the 11-year ones aren't at 10% or don't have inflation increases, but you can look for something. If the numbers aren't what your friend needs, at least you haven't left that stone unturned.

Maybe one way to back-stop a tiny amount of risk is to accept that he *might* have to do a reverse mortgage if the small amount of risk bites at just the wrong time. The problem is, he's asking for a greater percent payout that an accepted "riskless" investment (T-bills) can provide.
Print the post Back To Top
No. of Recommendations: 1
The problem is, he's asking for a greater percent payout that an accepted "riskless" investment (T-bills) can provide.

Even T-bills have risk, unless he were to set up a T-bill ladder that matures with the exact amount that he will need in each of the next 11 years. (And that would mean guessing at his inflation adjustments for each year, too.) If he has to sell a T-bill early and rates have risen, he will lose principal, as buyers will only pay the amount that will get them the prevailing T-bill rate. Since rates are currently very low compared to overall historical rates, there's only a little potential upside, which would occur if rates were to go up.

CDs at an FDIC insured institution don't have a lot of risk, unless one thinks that the FDIC will run out of money insurance money. If that happened, the crisis that would be occurring would probably have resulted in a lot more losses in almost any other investment. Of course, in this case, with $500k to invest, he would have to spread the money across multiple institutions, so as to not exceed the FDIC limits.

AJ
Print the post Back To Top
No. of Recommendations: 2

CDs at an FDIC insured institution don't have a lot of risk, unless one thinks that the FDIC will run out of money insurance money.


I haven't looked lately, but in the early days of the Bush-administration mortgage crisis it was pointed out that the banks with the six largest amounts of FDIC-insured deposits *each* had more such deposits than the FDIC's total reserves... and the largest one by itself would have wiped out the FDIC if it had been unable to pay off a mere 10% of its insured deposits.

That is, of course, assuming no Congressional bail-out of the FDIC.

Since we now know that the FDIC's response to the failure of a big bank is to merge it with a bigger bank, I would guess that probably the situation has gotten worse.
Print the post Back To Top
No. of Recommendations: 0
I am sure things are less stable now. Congress will just use the rest of our SS to save the FDIC
Print the post Back To Top
No. of Recommendations: 2
I haven't looked lately, but in the early days of the Bush-administration mortgage crisis it was pointed out that the banks with the six largest amounts of FDIC-insured deposits *each* had more such deposits than the FDIC's total reserves...

There have been a lot of changes in bank regulations since then.

and the largest one by itself would have wiped out the FDIC if it had been unable to pay off a mere 10% of its insured deposits.

Which is precisely the reason that Dodd-Frank requires banks with more than $50B in assets to create living wills. Here's an article that explains living wills: http://www.cnbc.com/2016/04/14/cnbc-explains-bank-living-wil... And here's the webpage from the Fed's website with more information about the requirements and specific banks: https://www.federalreserve.gov/supervisionreg/resolution-pla...

Since we now know that the FDIC's response to the failure of a big bank is to merge it with a bigger bank, I would guess that probably the situation has gotten worse.

My guess is that that's no longer the response for large banks.

AJ
Print the post Back To Top
No. of Recommendations: 0
Rocannon -

What did your friend decide to do? Although, technically, this is not a retirement scenario, the same dilemma applies - that being a sharp market downturn in the first few years which hurts the rest of the time period.

As AJ showed, your friend can only achieve his goal by spending less and adopting a disciplined asset allocation that allows the equity or fixed income investment to grow/rebound from a market downturn.

So, following Gene's approach of keeping $150K in cash to cover the first 3 years, I ran a couple of scenarios for the rest ($350K). It looks to me like a 50-50 split ($175K each in fixed income and equity) would accomplish his goal. However, my rough calculations does not account for inflation.

If your friend were willing to work part-time, the added income would make the goal much easier to achieve.

Paul
Print the post Back To Top