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Four Strategies to Determine Your Asset Allocation.

By Posted on In Investment Behavior, Investment Strategies, Retirement, Rule of Thumb, Uncategorized

Asset allocation is an important component to any portfolio.  It deals with the ratio between various asset classes such as stocks and bonds.  Many investors don’t know where to start or how to determine if their asset allocation is appropriate based on their objectives or risk tolerance. Below are four strategies to determine an appropriate asset allocation.  Each one with pros and cons.

  • Rule-of-thumb Formulas are useful for quick planning purposes.  For an investor, this should be a starting point to see if their current allocation is in the ballpark.
  • Risk Tolerance. Investors can complete questionnaires which can identify how comfortable they feel about volatility in their portfolio.  The questions identify how the investor would feel if they were to see their account value decline by X% over various time frames.  Based on their answers, a portfolio is designed around their risk profile.  This is an objective data-driven solution, which many find appealing. But an investor’s risk profile is not static. It changes day to day, depending on their experiences, the news, and a variety of other factors.  When the economy has a negative outlook, an investor’s appetite for risk is usually much lower than when the economy is bullish.
  • Stage of Life.  Age based asset allocations that adjust over time have grown in popularity.  The premise is simple: as an investor gets closer to retirement, his allocation shifts to more conservative asset classes.  This can help reduce the risk of extreme market volatility right before they enter retirement.  The downside, this approach does not factor in personal considerations such as risk tolerance, longevity or financial goals.
  • Goal based. At times, we have built portfolios around a client’s financial goal, such as having $500,000 in assets by the time they retire.  We can show the client the risk factors he/she would take on to try to reach that goal.  This often sparks a conversation with the client about other factors that should be explored, such as increasing the savings rate or adjusting the goal.

If you’re looking to get started, begin with this popular rule of thumb: subtract your age from 110 to determine your stock percentage, put 10% in cash, and the remainder in bonds. From there, you can edge the portfolio to be more aggressive by increasing your stock holdings or more conservative by increasing cash or bonds.

This is starting point, although you should seek professional guidance in determining an asset allocation that will meet your objectives.

Three Retirement Strategies I Forgot to Tell My Client.

By Posted on In Investment Strategies, Retirement, Saving, Uncategorized

I recently met with prospective clients who needed a lot of guidance. They were entering retirement with substantial assets and sources of income, but there were important health issues to consider. It was complicated.

They had not been well served in the past. They had outlived all their previous advisors as two of them in succession had retired from the business. They had been left with several accounts of investments, IRAs and annuities, and they have to deal with multiple organizations to get the answers to their questions.

No one is helping them coordinate their planning. Nobody else knows all the pieces of the puzzle.

We spoke for a while about their situation and how I could help them. After the meeting, I thought about three other strategies that I wish I had shared with them.

1) Check to make sure the entire portfolio is working well together. Consolidation of accounts can help keep paperwork organized and simplifying tax preparation, but doesn’t help the performance of the investments. All too often, we see client’s combined portfolios inadvertently skewed too aggressive or too conservative because they never stepped back and looked at the whole portfolio. There are even cases, were a client owns several mutual funds only to realize that about 10% of their underlying investments are invested in just three stocks. While they thought they were diversified, they never took the time to review the overlap that existed between the funds.

2) As a rule of thumb, we recommend that clients spend down their accounts in the following order to minimize tax consequences: Cash, Individual and joint accounts, 401(k)s and IRAs, ROTH IRAs. There are, of course, exceptions and we don’t recommend spending an account down to zero before moving on. As a client transitions into retirement, this rule of thumb may help in planning the order of tapping each account.

3) A client should go into retirement having a good idea of what their expenses have been for the last few years so we can develop an income stream to meet their expenses without taking on unnecessary risk. If a client has yearly expenses of $50k pre-tax and $30k coming in from a pension and Social Security, we know that we need a portfolio that can generate $20k plus extra for inflation. If a client has a portfolio of $600k, then a $20k withdrawal represents about 3.5% – That’s acceptable. Now, if the client had a portfolio of $200k, then a withdrawal of $20k would be 10% and would warrant some further discussion about how to bring that down to a more reasonable rate of withdrawal.

If this situation sounds familiar or if you think you can benefit from any of these strategies, we’d be happy to offer you a complimentary consultation. Please email me to get started.

 

What to do if you forgot your RMD

By Posted on In Retirement, Rule of Thumb, Uncategorized

While there are a couple of exceptions, you’re required to take distributions from an IRA or a 401k under two circumstances. These are known as the Required Minimum Distributions, or “RMDs”, and they generally apply to:

a. Your own IRA, in the year you’ve reached age 70-1/2; and

b. An IRA you inherited, from someone other than your spouse, in the year following that person’s death.

Failure to take the RMD results in one of the most severe penalties you can imagine: the penalty is 50% of the missed distribution amount. So if your IRA is worth $100,000, and the RMD calculation is, say, $4500, the penalty for not taking that distribution is $2250. Ouch!

Luckily that penalty can be waived if you have a good excuse and you correct your oversight. The details are in the IRS guide to IRAs, Publication 590. But Boston area attorney Natalie Choate, a specialist in retirement distribution planning, summarized the process for me when I attended a seminar sponsored by the Boston Tax Institute a couple of weeks ago.

It appears that the IRS will generally waive the penalty when there is both a “reasonable cause” and “remedial action”. Reasonable cause can be an error by the IRA custodian, or bad advice from an advisor, or your illness, military service, or, surprisingly, your incarceration! The remedial action is usually your making up for the distributions that you had previously missed.

You also have to file IRS Form 5329 as follows:

·On line 50, enter the amount of the RMD that you missed

·On line 51, enter the amount of the RMD that you took, usually $0

·On line 52, enter the difference as $0, and mark “RC” in the margin to indicate “reasonable cause”

·Attach a statement on the “reasonable cause”, and provide evidence of the remedy or corrective action.

Form 5329 can be filed as a stand-alone form for the tax year in question, and no amendment of your prior return is needed.

If you find yourself in this situation, you should contact a tax accountant to guide you through the process.

If you have specific questions about your RMDs, please email me at ron@ol-advisors.com

 

Misperceptions of Risk

By Posted on In Investment Behavior, Investment Strategies, Retirement, Uncategorized

Below is the outline of a recent talk given by Nick Murray. For those unfamiliar with his message, it is one of extreme optimism. He is renowned within the industry for his ability to look past all the noise and point out the truths of why now is the best time to invest… in a rather direct and blunt approach.

Investing is easy. there are only two outcomes:

1) You will outlive your money.

2) Your money will outlive you.

It’s that simple.

Investors have two misperceptions of risk:

1) Investors are concerned about loss of principal.

why is this a misperception?

The real concern is loss of purchasing power NOT principal.

Purchasing power is inflation.

3% inflation rate over 30 years of retirement means that you will need $125,000 in 30 years to buy $50,000 worth of goods in today’s dollars.

The problem is erosion of purchasing power.

Every year, everything you need to buy will cost more.

Investors can not invest in a retirement they can’t imagine.

To solve this problem, investors need rising income to account for inflation.

Fixed income is like a rattle snake, it warns you before it bites. It’s fixed like the name implies.

Solution: invest in the great companies both domestic and foreign and own for the rest of your life. The dividends produced rise over time and may help reduce inflation risk.

2) Investors can’t distinguish between volatility and loss

All too often, investors mistake temporary declines for permanent loss and sell out before it returns.

Why is this a misperception?

Stock market is not the source of all ruin

Most parents of baby boomers were born during the depression and the baby boomer’s thoughts on the stock market are based on their parents perceptions of the market.

News does not equal truth

News does not think in 30 year clips

Solution: turn off the TV and stop listening to the noise.

 

Social Security Strategies

By Posted on In Investment Strategies, Retirement, Uncategorized

If you are retiring soon, don’t expect the Social Security Administration (SSA) to give you the best advice on how to start collecting your benefits.  In fact, they have been known to give out poor advice.  I recently heard a story of the SSA sending a letter to a 65 year old, who was not currently collecting social security, which said something to the effect of the following:

“Did you know you could have taken social security at the age of 62? We are offering a lump sum to you for the three years of payments you have missed.”

On the surface it seems great – It sounds like free money. But as you continue to read the letter, you learn that future benefits going forward would be based on if the individual were 62 (about a third less than if the person waited until their full retirement age).

The SSA is doing this to lower their obligations and many individuals will take the SSA up on their offer, only to realize that it was a mistake.

Here are few strategies to help you maximize your social security benefits, but please consult with your financial advisor before you make any decisions.  This is a complicated situation that you should not try to navigate on your own.

1) Instead of looking at maximizing the monthly benefit, look to maximize the total benefit over your lifetime and your spouse’s lifetime. This will help you compare the different options you will develop and determine which one will be best for your situation.

2) To do this you’ll need to approximate how long you and your spouse will live. SSA’s calculator can help link to article. But use your own intuition – if your family has a history of living longer, then factor that into your thinking.

3) Calculate the total benefits using a few different scenarios: Both collect at age 62, both collect at full retirement age (FRA), and both collect at 70, are the easiest to calculate. Hybrid options become more difficult and can best be described as follows: The lower earner collects his or her own reduced benefits at age 62, and unreduced spousal benefits at FRA, while the higher earner collects at age 70. In order for this to work, the higher earner must file and suspend at FRA. There are limitations to this example, so be sure to consult with a financial advisor.

4) With numbers in hand, you can compare the options.  Look at total benefits and the breakout between husband and wife.  You may realize that between two options with similar total benefits, one is better if there is an early death or one lives until 100.  That will be the hardest part as you will see that the longevity assumptions are very important to consider.

It may be wise to enlist the support of a financial advisor who can help in putting together these strategies and determining which one is most appropriate.  We have recently started using a third-party program that illustrates this clearly for our clients.  Email us and we can help run some of the numbers for you.