Step 4: Off the Shelf

NOW THAT YOU HAVE your next five years of portfolio withdrawals stashed in conservative investments, it’s time to deal with your longer-term money—those dollars you won’t need to spend in the next five years.

While stocks have historically notched gains over most 10-year holding periods, there have been some five-year losing stretches. The implication: You might buy stock funds if you have 10 years to invest. But once you’re within five years of spending the money, you should look for a good moment to ease out of stocks.

Where should you stash this longer-term money? Consider the hassle factor. Do you want to keep matters super-simple—and use just one fund for your long-term savings? In that case, you might buy one of the target-date index funds offered by Fidelity Investments, Charles Schwab or Vanguard Group, all of which have modest annual expenses. It’s a simple matter of picking a fund with a target date that’s close to the year you expect to retire or the year when you’ll need the money for some other purpose. As that date approaches, the fund will become more conservative, owning less stocks and more bonds.

(Be warned: Both Fidelity and Schwab have a second set of target-date funds, but they’re built using actively managed funds. These are considerably more expensive—and not the sort of fund that HumbleDollar favors.)

You might also check out Fidelity Multi-Asset Index Fund and Vanguard’s four LifeStrategy funds. All five funds offer a static mix of U.S. and foreign stocks and bonds—again, built using index funds. All you need to do is decide how aggressive you’re willing to be and hence how much stock exposure you want.

These various one-stop shopping funds offer a professionally chosen investment mix that’s continuously rebalanced. Indeed, once you become a shareholder, you don’t need to make any further investment decisions, beyond whether to add or withdraw money. These funds are also emotionally easy to own: All you see is a single share price, which will move far more sedately than the price of the various investments held within the fund. Put it all together, and these funds should be the top choice for the vast majority of investors.

It’s best to own one-stop shopping funds within an individual retirement account, 401(k) or other tax-deferred account. Why? If you hold one of these funds in a taxable account, you’ll suffer a measure of tax inefficiency, for two reasons. First, you’ll receive taxable distributions generated by the fund’s stock and bond holdings. Second, as these funds rebalance their holdings to stay in line with their target mix, they could realize capital gains—which are then taxable to shareholders.

Next: Step 5: Build Your Own

Previous: Step 3: Cover Cash Needs

Articles: No GuaranteesDifferent Strokes and Missing the Target

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