Bond Lookalikes

I’ve been engaged in some year-end tax and financial planning.   I’ve focused more on the tax planning, especially looking at a Roth Conversion.  A recent post by Dick Quinn, discussing his bond strategy, reminded me that I want to take a good look at our asset allocation and consider making any worthwhile changes.

Last year was a significant year for us.  We sold our beach home, paid off our mortgage, and simplified much of our financial lives.  We exchanged a fair amount of real estate equity for financial assets, including a healthy cash position.  Our financial lives are pretty vanilla these days, but I believe our portfolio could use a review.

I usually generate a family net worth statement after the New Year.  I took a quick look today at our current accounts to support the analysis.  Our current asset allocation is a bit heavy on stocks, around 74%.  The combination of my pension, and my wife’s SS benefit, cover our regular expenses, and our cash position can cover any discretionary expenses. I plan on claiming my SS next fall when I turn 70.

One of my initial reactions to Dick’s post regarded how a pension, and SS, should be considered when assessing one’s portfolio.  This was a topic Jonathan often wrote about.  The Humble Dollar Guide contains an article, entitled “Bonds More or Less”, that discusses how guaranteed income sources act likes bonds.  The final paragraph states:

“What if much of your retirement income will come from Social Security, income annuities and a defined benefit pension? Because you have these bond lookalikes, you may have less need to buy actual bonds—and instead you can continue to keep a hefty portion of your portfolio in stocks.”

The article recommends that to evaluate the worth of these bond-like assets you can “investigate what you’d pay to buy income annuities that generate comparable streams of income”.

This sounded like a worthwhile effort, so I used Fidelity’s Guaranteed Income Estimator tool to determine the purchase price of immediate annuities to replace my pension, and our SS benefits. I looked at 2 cases. The first case considered replacing our current guaranteed income sources, namely our combined SS benefits (I assumed I claimed on 1/1/27) and my pension.  Second, I looked at what would be available to my wife if predeceased her on 12/31.  My pension has a 75% joint and survivor benefit, and she would receive my larger SS benefit.

The table below shows our current asset allocation, and what it would like if we considered our bond-like assets.  The dramatic change in the bond allocation is an indication of how valuable these assets are.  For example, if my wife had to replace the survivor benefits that SS and my pension would provide, it would cost about $1.5 million, according to Fidelity’s tool. This included a 2% COLA on the SS portion. Replacing our current income would cost about $2M.

This analysis reinforced my appreciation for my pension, and our SS benefits.  It also highlights the challenges retirees face in a 401 (k) world.   For example, consider a couple, both 67, retiring on 12/31/2026. Assume they earned a combined $120,000.  Claude AI tells me a reasonable expectation would be that they would receive about $5,000 per month in combined SS benefits. That leaves another $5,000 per month to make up.  An immediate annuity, with a 2% COLA, and 100% joint and survivor benefit, would cost right around $1M.