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WHAT’S THE BIGGEST threat to your retirement?
For young adults, we know a key pitfall is failing to invest in stocks because they’re so afraid of the market’s short-term ups and downs, thus unwittingly risking impoverishment later in life.
But for those of us nearing retirement, the market’s ups and downs can start to matter more than stocks’ long-term inflation-beating performance. An ill-timed market crash or a run of bad annual returns could ruin our retirement plans.
What to do? That depends on a host of factors, including your nest egg’s size, your ability to work longer if necessary, and the potential income and satisfaction you might derive from part-time work once you leave fulltime employment. There’s a point at which you should strive for growth and a point at which you should focus on conserving wealth—but those points will be different for each of us.
My late mother had a decent-size portfolio. But during the final 15 months of her life, which spanned 2020-21, she required round-the-clock home health aides at a cost of $220,000 a year. We had no idea how long those expenses would go on. Mom, to her credit, had never before touched her portfolio. But during that 15-month stretch, I was forced to sell some investments at inopportune times on her behalf.
Her end-of-life health care costs were a wakeup call for me. If you’re far short of a multi-million-dollar portfolio, like I am, you may have little choice but to continue living on a tight budget for the remainder of your working years, while also investing mostly in stocks.
I know some say I should start traveling more now, while I have my health and can still get around. But I’m not earmarking a lot of money for overseas adventures. Maybe I’ll do one trip every three years or so. That’s despite the fact that, with my hip in need of possible replacement, I can imagine a future where strolling through the old town of a foreign capital will be painful. But at the same time, I also see the news of people dying who weren’t much older than I am now.
My caution today is the price I pay for ruining my finances in my 40s, when I devastated my portfolio by making risky investments using margin debt. I don’t get the three-week Europe jaunt, at least not yet. I could probably spend more, but it isn’t my goal to die broke. If possible, I’d like to leave an inheritance to my two children.
In the meantime, I still need growth. I’m 62, and I hope and plan to work for another five years or so. I may be able to work even longer, if that proves necessary. My profession—writing and editing—lends itself to part-time work in retirement, even with my arthritic joints.
There are ways to get more conservative while investing for growth. I have about 72% of my portfolio in stocks and stock funds, though I’m planning to reduce that by one or two percentage points a year. That would still leave me with more than 60% in stocks at my planned retirement age, which is perhaps somewhat aggressive.
I wrote earlier about how I’m increasingly limiting risk in my bond-market money. Within my stock holdings, I’m also trying to reduce risk, but that’s easier said than done.
I’m diversified across U.S. and foreign stocks. I also have a little extra in energy and defense stocks as a hedge against events that could drive the broad market lower. I’m intentionally minimizing exposure to China, as I’ve written here and here. Partly as a result, I’m light on emerging markets.
In addition, I lean toward a value investing style, especially small-cap value. I consider limiting exposure to high-priced mega-cap tech stocks—which today dominate the S&P 500-stock index—as a way to reduce risk. Indeed, true market-capitalization-weighted index funds only account for half of my portfolio.
Unfortunately, other investors seem to be seeing more risk in small-cap value right now than in technology, partly due to fears about a recession and the banking sector. But I’m sticking to my value tilt. Still, there are risks in waiting for value to return to favor and deliver a multi-year period of outperformance. Investment styles can lag badly for many years, as value has, and my plan is to gradually move closer to complete market-cap indexing as I get older. Moreover, value stocks aren’t immune to market collapses. Sometimes, they don’t hold up much better than growth stocks, if at all.
My approach paid off in 2020-22, a big improvement over my previous track record. My losses were well-contained last year. But with growth taking off again this year and value far behind, I’m fearful I’ll miss the boat again by not fully indexing.
Maybe I’m living my own variation of Daniel Kahneman’s Prospect Theory, which states that we hate losses twice as much as we love gains. I’d rather lag the market on the upside than be fully exposed to today’s glamour stocks and the danger that there’s a bubble about to burst. Telling myself “I told you so” would be unbearable.
William Ehart is a journalist in the Washington, D.C., area. In his spare time, he enjoys writing for beginning and intermediate investors on why they should invest and how simple it can be, despite all the financial noise. Follow Bill on Twitter @BillEhart and check out his earlier articles.
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The phenomena that you’re speaking of is called sequence of return risk. Which is the risk of suffering investment losses late in the retirement accumulation phase or early in retirement.
The way to address this issue is implement the use of annuities(not variable annuities, but products like deferred and immediate annuities) and to reduce the exposure to equities. Increasing the allocation to bonds is not the automatic answer when decreasing exposure to equities. The viability of bonds have changed significantly over time. From the early 80’s to early 2000’s was the period of the greatest bond bull market of all time. That is not the case right now. That will probably change as the current bond rates begin to moderate downward. For now, bonds are not a ballast to a portfolio but a detriment. Riskier junk bonds are the only bond sector that is positive in 2023. However, junk bonds go down like stocks in down equity markets. In 2008 top quality junk bonds dropped like stocks. Bottom line is this…in the current environment bonds are not the ballast to a portfolio that they have been traditionally thought of.
Hi Bill:
Two comments about your post: 1) You seem to be mentally juggling different market segments. It may be beneficial to divide your money into broad domestic and international index funds in what you consider to be appropriate percentages then set it and forget it, 2) regarding painfully walking through a “foreign capital”- as retired orthopedic physical therapist who has undergone replacement of both hips (the first nearly two decades ago) I would suggest either replacing now, or at the least a year before you plan on traveling. With my artificial hips I have been able to bike up to 1K per summer, lift weights, and walk in multiple foreign capitals as well with no symptoms. Like the cable guy says, “get ‘er done”!
Ouch! That is a great deal of money for in-home care. I have addressed that problem by only considering CCRCs that promise not to throw me out if I run out of money (but the monthly fee goes up every year). For certain diagnoses I hope for a one-way trip to Switzerland and Dignitas.
I would urge you to reconsider your decision to limit travel. Provided you avoid expensive tours and cruises, not to mention up-market hotels and Michelin-starred restaurants, it is possible to travel quite economically. An affinity credit-card allows me to pay for long haul flights with FF miles. Public transport is generally good and cheap. Sandwiches for lunch and ethnic foods for dinner keep food costs down, and I actually prefer B&Bs (not AirBnB) and small local hotels. I would recommend reading “Europe through the Back Door” and guidebooks like Lonely Planet and Rough Guide. In Europe countries get cheaper the further south and east you go, and most of southeast Asia is also cheap.
Just yesterday I heard an awful story about from a friend whose partner had booked flights from a small upstate NY city to Italy using a budget third party. They weren’t informed of a change in the international flight, missed it, and then weren’t given help re-booking, or given a refund or credit. Lost $4500 for the two round trips. (Suing in small claims would mean traveling to court in Delaware). Any thoughts or experiences on using these companies vs. booking directly with the airline, b&b, etc.?
When I use FF miles, obviously I book with the airline. I do use third-party sites to research prices, but then I usually book with the airline. A number of years back I successfully used onetravel for a couple of flights but I haven’t used them recently. Booking through a company like Expedia is probably safe, but creates difficulties if things go wrong – do you deal with the airline or Expedia?
Since they missed the flight I’m not sure they have any recourse (it’s always a good idea to check as flights are often changed, sometimes more than once) but they might try a consumer advocate with their local TV station, or a national one like Christopher Elliott.
That sounds really high for flights to Europe, were they in business class? If they were flying out of a local airport next time they might do better traveling to a bigger airport.
Thanks. I will pass your advice to my friend. Like you, I thought the amount was high. Maybe it included ground arrangements as well. I appreciate your advice for myself too.
I agree with your points about market risk, but the point that stood out to me in your article as the biggest risk to my retirement is the $220K a year your Mom had to spend on her care the final 15 months of her life. Running the numbers, that’s only $25 an hour for 7 X 24 care; a quite modest hourly rate. I suspect for most folks an extended period at that rate would exhaust their funds and leave them in a medicaid facility. Your Mom’s story is just another example that indicates that a crucial factor in ones retirement plan (and security) has to be having a plan for an extended period of poor health in old age. Frankly, it seems to come down to just a few options: 1) have a massive portfolio so one can simply fund it themselves, 2) plan on relatives providing the 7 X 24 care (possibly for years), 3) hope this just doesn’t happen, and if it does just plan on dying broke in a medicaid facility, or 4) get into the best CCRC one can afford while they still qualify. Am I missing any other major (realistic) options?
My mom chose option 2. My 63-year old sister is entering Year 11 of full time, pretty much unpaid, care giving. When the family member is as devoted and meticulous as my sister, the elderly parent can live for a very long time. I have expensive LTC insurance that I’m thinking of reducing from a lifetime benefit to a 6-year limit. Also thinking, perversely, about a less healthy lifestyle going forward. Life after 100 isn’t all it’s cracked up to be.
Please make sure your sister is reimbursed.. think of what this is doing to her retirement nest egg, physical health, mental health.. etc.
Thanks for sharing another reality check.
Purchase hybrid long term care insurance while healthy so premiums don’t increase and the benefits last as long as you do. Smarter than self-funding if done right.
I thought about putting LTC (either traditional or hybrid) in my options above but decided against it. My reasoning was that you probably exhaust the benefit if you live long enough as most policies are of limited duration. I was specifically speaking to “an extended period of poor health”. At that point, you’re left with one of the options above. I have a distant relative who’s been in memory care for 14 years and still going strong at 94. At this point, all the money’s gone and she’s in a medicaid facility. I admit LTC is better than nothing (and I do in fact have a LTC policy) and I know most people don’t last long after getting to the point of needing extensive care. But I didn’t include LTC in my list as (ironically) it generally doesn’t address the long term issue.
It depends on the policy. My mother-in-law’s LTC policy is for life. My husband and I had the same policy but a few years ago made the choice to go down to a ten-year limited policy (for lower premiums than the life policy). We also could have chosen three years. Ten years was the compromise because statistically, most people need LTC for (a lot) less than ten years.
My in-laws have been paying $1000/month for her LTC premium, which is a lot, but they’re about to start using it, as she’s 83 with Alzheimer’s. And with this policy, once you have a claim open, the premiums are suspended.
Yes, policies with those unlimited durations do still exist, but I believe they’re generally no longer available for purchase to the public. That’s why I didn’t mention them as I doubt most people will still be able to purchase one. I know federal employees had access to an unlimited duration LTC policy back about 20 years ago. But OPM stopped offering the unlimited duration policies quite a few years ago. At this time, OPM has suspended issuing all LTC policies to federal employees for 2 years while the program is reevaluated.
Genworth keeps sending me letters about their dire actuarial situation, while warning me about a potential 250% premium increase over the next few years. They want everyone to die without filing a claim (unstated of course) or settle for lower benefits. I’ve hung in there so far, and haven’t hit the $1000/month mentioned in a comment. I still have to decide what my upper limit will be for the premiums.
I am currently spending $32/35 per hour for in home help for my brother in law for 48 hours per week and it is very hard to find good people. My wife and I provide the balance of the week. My brother in law is Medicaid and we anticipate he will end up in facility within 18 months. We have inquired with facilities and have found that they don’t have beds available for Medicaid but you go to a lengthy waitlist. Good luck!
Ugh, that does sound rough. Thanks for sharing a reality check!
We got lucky when were retired.
in our first few years the markets were up so we didn’t experience “sequence of returns risk”,
Just 100% luck was all.
It certainly wasn’t due to any brilliant investing on my part.
I have also done extreme harm to my portfolio, just one is , years ago, buying individual stocks through a full service broker, and watching a few of them go to zero. That is not a misprint.
I found out the expensive way that buying individual companies via expensive brokers and buying globally diversified low fee index funds have very little in common.
Another tremendous error was marrying the wrong woman in 1994.Without going into more detail, I can tell you that was an error that cost me not only emotionally, but also financially , to the tune of losing about 68% percent of my wealth when the divorce was all said and done.
Marrying the wrong person, and staying married for far too long to that person, are not wise decisions, to be kind.
There are many more poor decisions, but, those two are the worst. I constantly strive to make better choices. I am doing better, but, there is still room for much improvement.
One of my adult kids made the marriage mistake more than once. I try to help by saying that kindness and generosity toward a troubled person/family isn’t wasted, even though it seems like it at the time, especially when children are involved.
Because of my pension I don’t experience the stress of the market as it relates to my income in retirement. I don’t like the ups and downs for sure, but it doesn’t affect my lifestyle-yet.
I am obsessed with having an income stream in retirement that doesn’t directly depend on the markets.
Are you considering any type of annuity in your retirement plans? I was thinking that designating one segment of a portfolio being accumulated for retirement to be used to purchase an immediate annuity at retirement would ease the decision.
People tell me all the time annuities are not a good deal, but it seems they can be great stress relievers. When I run estimates for immediate annuities it turns out the monthly income is often greater than what is generated using a 4% withdrawal from the same lump sum amount.
I am not an expert, just a steady income advocate.
“ When I run estimates for immediate annuities it turns out the monthly income is often greater than what is generated using a 4% withdrawal from the same lump sum amount.”
Note the 4% rule was the amount of inflation-adjusted dollars that could be withdrawn from a portfolio without failure. Annuities generally don’t offer any inflation adjustment, or at best a modest increase. There are very smart actuaries that design the plans and full inflation protection used to be offered but no longer is. That may be an important message.
The advisor Bill Bernstein has written an article https://www.advisorperspectives.com/articles/2022/11/29/playing-inflation-russian-roulette-in-retirement that disparages annuities.
But I don’t have a crystal ball. Maybe over the next several decades annuities will turn out to have been a prescient investment. You pays your money and takes your chances.
I have two, representing about 25-30% of my retirement funds. I could start drawing on one now, but will probably wait a few more years. I have five years before I can withdraw from the other one without penalty. I plan to use these to augment my pension income for living expenses, rather than drawing from the IRA’s.
To ease my concern about my fixed pension amount I don’t consider my annuity as a paycheck which increases with inflation but as I a bond payment
I’ve found that most people that criticize annuities don’t know the difference between variable and fixed products, especially “single premium immediate annuities”.
I am well aware of the difference. My problem with annuities is the lack of inflation protection. If I had bought an annuity in 2019, it would be worth a good bit less today, never mind if I had bought when I actually retired (early), in 2000.
My pension has no inflation protection either, but like an annuity, no downside either. You can get an annuity with an annual increase though like 2% a year-better than what I get and my pension has been eroded 14 years.
I agree.