@nc-cpl I haven't gotten that granular so far. Since PRC is really for long-range planning, I just stick with the overall expected returns over that long haul for both investment class returns (broad - stocks, bonds, cash) and inflation. I keep getting tempted to get more granular, especially since I know there's consensus on what's expected over the next ten years, but then what do I put for the years following that period? It gets complicated, and too much into trying to predict what will happen in specific periods too far into the future. I think striving for that expected long-haul return, even if it's a 10% nominal return for equities adjusted to 7% real return due to an average of 3% inflation, is a better way to go.
I see clients watching the escalating inflation and plugging in things like 7% into Pralana. That's not wise, you're saying you expect it to be at 7% average over the course of your life, which is very unlikely.
Now, in real life, in the investment portfolios I manage for my clients, it's my job to try to make that stated, expected asset class return happen by managing their investment portfolios strategically and responsibly 🙂 But by doing the risk tolerance exercise with them, I know how much loss they can tolerate within a year or six month period before they start getting stressed/nervous, so I have to do my best to stay within that agreed range on the down side as well.
@hines202 I agree. PRC's capabilities beckon me to "get into the weeds," and I have to resist the temptation to go too far down the rabbit hole and as you outline, attempt to project with confidence things like ROR's, healthcare costs and inflation over a 30 year period. 10 I'm more comfortable with. I also appreciate hearing what users are inputting into the tool and why, as it either confirms or challenges my assumptions and knowledge.
To that end, a 10% nominal/7% ROR feels a bit lofty, but maybe its just current conditions that have me pessimistic, although I'm not yet 7% long-term inflation pessimistic...yet. 😱
That's not to say I don't examine the details of the projections, because I do. But I try and remind myself that we're working with "DSU" data (definite, speculated and unknown), that will cause any projections to recalibrate annually based on changes to that data. Getting too focused on any single number is to lose the forest for the trees, and aren't most of us just trying to make sure we're not having to live in a van, down by the river, when we retire?
@hines202 consensus on what's expected over the next ten years - still not buying the "consensus" has much validity even for "only" 10 years. Although I am not a bid fan of Morningstar, or any big investment firm's predictions for that matter (have I said that before 😏 ) here is a nice article from Morningstar https://apple.news/AQ9VrPBleS-OBf8-Hi-tvq that talks to some degree about 10 year predictions.
@nc-cpl live in a van, down by the river - don't forget the government cheese: https://www.youtube.com/watch?v=Xv2VIEY9-A8
I also agree that going into the weeds, while fun, is not best for most. Users of PRC have enough to think about such as asset allocation, ROR, inflation, health care costs, withdraw rate, Roth conversions, tax brackets & rates, etc. Nailing down A number for each of these is problematic. The bigger question is probably why are you using PRC in the first place. I can think of three reasons: i) if you have not retired yet, tiring to decide how much money you need in order to retire; ii) already retired and deciding what you need to do to not run out of money before you do; and iii) how to get the most out of you retirement money (to give to charity, kids, etc).
@hines202 Bill, I was not aware that Vanguard had an international stock fund that hedges currency risk. You mentioned that you use VXUS which according to the prospectus has currency risk. I think you also mentioned you aren't a fan of emerging markets and VXUS has about 25% in emerging markets. I would appreciate it if you could provide the Vanguard fund that is currency hedged and does not have emerging markets exposure. VEA is just non-US developed markets but it does not appear to hedge currency risk either. Thanks in advance.
"I'm using the Vanguard VTI ETF for total US and VXUS for total international."
"Be careful - some international investments and funds incur currency risk! Vanguard's doesn't, which is why I use it."
@golich428 I have a new rule for myself - no more posting when I'm in a rush or away from my main computer and using my phone 🙂 I had confused/conflated a few things, so apologies to all.
It's Vanguard's international bond fund (VBTLX/BNDX) that is currency hedged and what I was thinking of, as well as Vanguard Global Minimum Volatility (VMVFX, VMNVX) in equities. It's why I was using BNDX for international bond exposure/diversification. It has almost no exposure to bonds rated BB or below (i.e. no junk/high yield).
I've been rethinking and researching my fear of currency risk. Should we be overly concerned about currency risk, at least for my wheelhouse (long-term buy-and-hold passive low-fee retirement investors)? Does that small (usual) variation outweigh the benefits of diversity into those great ex-US companies? In my recent reading on this, whereas currency risk used to be a much bigger concern in times past, these days the world economies are so tightly interconnected and interwoven, these smaller currency fluctuations tend to even out over time. The long-term real return of currency is zero. The advantage seems worthwhile for stocks, with their greater gains over time, but not with bonds, hence BNDX providing safety there for diversification in the bond market. Currency fluctuation itself provides diversification, which is good. Currency risk is about 1% of the total variability of international equities, per one paper I read.
US companies like Apple, almost all of them, have this risk inherently anyway since they buy parts, have manufacturing operations, branches, employees, sales, etc all over the world. Also, if you want your stock funds hedged, those funds will be more expensive.
Essentially, a fund like VXUS is a hedge against a dropping or weakened dollar. Earlier in 2021, this was a huge concern (although the dollar rebounded quite well by the end of the year). The advisor forecast calls from the big brokerages, as I've been saying, expect ex-US to outperform US in the next ten years. We have a lot going on right now in this country, for sure. Their logic in presenting this point of view makes sense to me.
In regard to emerging markets, I'll take that small risk and perhaps big reward as a small part of a total ex-US international fund like VXUS, what I was saying is I don't choose EM-specific funds because it's built into that simple diverse investment strategy of a VXUS. Vanguard forecasts emerging markets returns (i.e. VWO) to be 4.2% to 6.2% over the next decade, outperforming US stocks as well. Global unhedged ex-US equities forecast is 5.2%-7.2%, and US equities is 2.3%-4.3%.
Thanks for the clarification. If there was a currency hedged international fund, I was going to compare performance to VXUS to see if there was any reason to switch. I do remember reading some Vanguard research that indicated that there was not much of an advantage to hedging for US investors holding international funds. I don't recall the details though. I may go back and read it again, maybe my memory is faulty?
An article by John Rekenthaler, vice president of research at Morningstar, examined market data from the last 80-plus years and determined that portfolios heavily weighted in equities allow people who are already in retirement to safely withdraw more money each year than those with large bond allocations. Even going so far as saying 100% stock allocation can be better then a mix of stock and bonds. He clearly states this assumes the future will be similar to the past in terms of returns for stocks and bonds. He doesn't say anything about sequence of returns risk, maybe assuming that retires have a cash reserve. I also assume he did not use Monte Carlo analysis for comparison. Even I wouldn't go as high as 100% equities, but I am at 80% three years into retirement with a two year cash reserve. Thoughts??
https://www.morningstar.com/articles/1070407/better-stocks-than-bonds-in-retirement
What you don't see in the charts is the path of the portfolio balance in some of those 30 year periods. I have done similar studies but I see the path. There are many historical periods when you would have experienced a very large drawdown due to poor sequence of returns but got bailed out later in the 30 year period. I don't know too many retirees who could stomach the large drawdowns and keep spending at a constant % rate. Personally, I am tired of seeing study after study on safe withdrawal rates that are based on historical returns. This topic has been beat to death. In practice, I don't think many or any retirees implement a safe withdrawal rate of say 4% and stick to it when their portfolio declines significantly. These studies are just not very useful in my opinion. A forward looking approach using real inputs in Pralana is a much better way to develop a retirement cash flow plan.
@Pizzaman How did you arrive at an 80% stock allocation as being your preferred strategy? Was it based on a Pralana cash flow analysis? Do you need to have that high of allocation? Not criticizing - simply curious.
@golich428 Thanks for your question 🤔. I post links to research reports and various blog posts simply to provide information that I think might be beneficial to PRC users in their retirement planning and to spark debate. I don't necessarily buy into what some of the reports and opinions say, but I do like most of the ones I post. Asset allocation is probably the one area of retirement planning that I struggle with the most. I agree that most people shouldn't, and probably most PRC users don't, blindly follow the 4% (or whatever) withdraw rate. You have to be flexible. Given that, your asset allocation will have a big impact on your withdraw rate, and by extension how long your money will last, and I believe determining the asset allocation that is best for you is worth further debate on this forum. Stock (US/developed markets/emerging markets), bonds (short/medium/long, treasures, TIPS, corporate, munies), REITS, commodities, where to put your cash (online savings accounts, money markets, CD's, under your mattress), annuities............. 😧 What % gets what, I really don't know.
My wife and I have always been good savers and live below own means, have no kids, so running out of money won't be a problem. The 80% in stocks (all US index funds) just happened to materialize. We each have a regular IRA and Roth IRA (Roths are a little over 50% of our retirement money). I am a few years older then my wife, so we are living off of my regular IRA for the next 5 years or so (bonus with that is it will be depleted before the need for RMDs). That money is presently in a TIPS mutual fund which recently has been doing badly. In January, after the likely Fed hike this December, I will move that money into a CD ladder using brokered CDs with Fidelity. https://www.marketwatch.com/story/brokered-cds-pay-more-than-traditional-cds-what-are-the-risks-and-should-you-buy-them-now-11668171598?siteid=yhoof2
The remaining IRA (wife's) and two Roth accounts are in stocks. That results in the 80% stock allocation. We also have two years worth of cash in an online savings account. Long answer to your short question 😇
@golich428 A forward looking approach using real inputs in Pralana is a much better way to develop a retirement cash flow plan. Not sure what you mean by "real inputs".
@pizzaman A poor choice of words. What I meant was to use your personal information (portfolio value, asset allocation, pension/annuity income, return expectations, expense forecasts, etc.) and develop a retirement income solution that fits your situation and not rely on some rule of thumb withdrawal rate.
Here is an interesting article that points out that equities don't always outperform bonds over 20 year periods. There is always a counter view to many of these issues we face in retirement. I don't like to take extreme positions on most of these issues because the future is unknowable.
I am sure I have mentioned this before on this forum, but I use an asset liability matching approach to help guide my percent allocation to stocks and bonds. My goal is not to die with the most money. I lean to the "Safety First" style.
https://www.advisorperspectives.com/articles/2022/08/22/forget-what-you-know-about-stock-returns
Yes, 100% equities is an invitation to sequence risk, unless you have other sources of income (pension, Social Security, cash savings) that would prevent you from having to tap those equities (stocks) in a down market.
That's what's missing in a lot of this. Sure, 80/20 asset allocation sounds crazy in retirement. But not if that 20% covers 2 years of expenses in cash and 3-5 years in expenses in fixed income/bonds. That means you can ride out a five year recession without touching the equities. No sequence risk. Boom.
That's why I like to look at a client's assets and income sources from several perspectives. How much is in "guaranteed" income such as pensions, SS, annuities? (I use quotes because in some cases, i.e. annuities, it's not really guaranteed, as well as pension fund failures)? If they have high net worth, after setting up their first two buckets (2 years cash, 3-5 years bond funds) and put the rest in equities, that might translate to a high, aggressive AA of something like 80/20. Then we ask "Do they have the risk tolerance for that?" "Do they want to endure that roller-coaster?" Then we start making decisions.
Sometimes they plan on leaving the money behind to heirs or charity, so they leave it aggressively invested, knowing the step-up in basis will occur, or if it's in a Roth with the taxes paid already.
Plus, once my regular IRA runs out, my social security will soon start. Essentially, Social Security provides a lifetime annuity with inflation adjustments, and as such could represent a portion of a client’s fixed-income allocation in retirement. https://www.morningstar.com/articles/1124602/do-investors-need-to-reset-their-investment-strategy-in-retirement
So the 20% of my asset allocation becomes SS, more or less 😉.
@golich428 I don't recall you discussing asset liability matching approach before, at least by that name. I did a search on that phrase in the forum and only your most recent post was a hit. Can you talk about how that approach works?? Sounds interesting.
I also like the link you provided. I had not heard of VittaFi or Advisors Perspectives before. I signed up for their free newsletter. In terms of the article itself, I am not sure what to make of it 😕. Not sure what bonds outperforming stocks over certain 20 year rolling periods really means for asset allocation. Not saying its wrong, just not sure what to do with the info. You can slice and dice data and have it say pretty much whatever you want 😜. For example, on the same web site an article talks about the 10 reasons to stay invested in equities https://www.advisorperspectives.com/commentaries/2022/11/09/10-reasons-to-stay-invested-in-equities based on using recent 10 year rolling periods - ....looking at rolling 10-year periods from 1990 to present, large-cap stocks outperformed US investment-grade bonds roughly 80% of the time, while large-cap global stocks outperformed global investment-grade bonds more than three-quarters of the time... So an 80/20 asset allocation works 😎, don't know.
Just as an aside, JP Morgan Strategist David Kelly Says It’s Time to Jump Back Into Stocks, Bonds https://www.advisorperspectives.com/articles/2022/11/09/jpmorgan-strategist-says-its-time-to-jump-back-into-stocks-bonds and states: The bank’s chief global strategist predicted that US equities will see an 8% long-term gain, given that prices have fallen so much. So, what does that mean........ 🧐
As far as the article, I think the only utility it has is to realize that you could go extended periods of time with your bonds outperforming equities and if you are 80% equities that may be very frustrating, and it could impact your retirement plans.
There are probably many versions to the Asset-Liability matching strategy but I will try and explain how I use the concept. As you will see, I use it in a pretty broad manner and do not try or want to get more detailed. The concept I use for Asset-Liability matching consists of identifying the amount and timing of my future cash flow shortfall that will need to be funded from the investment portfolio. I then fund that shortfall from assets that have a duration that is less than the number of years when I need it. This allows me to be pretty confident that my asset will have a positive return.
I don’t get too granular with the timing, I look at more broad time periods that are triggered by some event such as from 2022 until I take social security in 2027. That is a five-year period where I will need cash from my investments to fund my lifestyle. I use investments with durations shorter than 5 years to ensure that I have those expenses covered. I have another five-year shortfall from when I take social security and my wife takes social security that I would use Intermediate term bonds with a duration of 6.3 years but since the yield is no better than the short-term bond funds, I currently allocate to the short-term bond funds to meet this shortfall.
I also set aside assets to cover long term care expenses and any unexpected expenses, and since I don’t know when these funds may be needed, I allocate this money to assets with a duration less than 5 years.
Any identified needs past 10 years, I would invest in a combination of intermediate/long-term bonds (if the yields were better) and the rest in equities. However, currently I don’t own intermediate or long-term bond funds due to the low yields. Equities have a duration of about 18 years based on some work by Cullen Roche.
Here are some current yields, durations and YTD returns from the possible universe of bond investments currently available from Vanguard. They give you an idea how duration impacts short term returns.
Money Market: Yield = 3.7%, Duration 11 days YTD
Ultra Short Term Bond Fund: Yield = 4.4%, Duration = 0.9 years YTD = - 0.88%
Short Term Treasuries: Yield = 4.5%, Duration = 1.9 years YTD - 4.3%
Short Term Corporate: Yield = 5.3%, Duration = 2.7 years YTD = - 6.0%
Intermediate Term Bond: Yield = 4.6%, Duration = 6.3 years, YTD = -12.8%
Long Term Bond: Yield = 5.3%, Duration = 14 years, YTD = 26%
@golich428 Do you have a link to Cullen Roche's work that talks about equities having a duration of about 18 years, I am wondering how he came up with that 😏. Your bond fund YTD numbers are all negative, how does that work with your cash flow? Of course those numbers are better than the stock market YTD 😉
