2022 has not been a good year for stocks and bonds. The S&P500 fell 23% and the Bloomberg US Aggregate Bond Index fell 14%.
This makes things risky for retirees, who may have to sell some of their stocks and bonds to fund their expenses. But dumping these low-priced assets can significantly reduce the size of your portfolio.
Morningstar explained how retirees, especially new ones, can solve this problem with Maria BrunoHead of US Wealth Planning Research at Vanguard.
First, consider reducing your expenses when the value of your portfolio drops. “We talk a lot about focusing on the things you can control by investing,” she said. “Spending is definitely part of that.”
The first step is to compare discretionary spending to non-discretionary spending. “Is there [areas] you can be flexible, these nice expenses to have? ” she says.
It’s also important to control spending when markets are up, so you have room to maneuver when they go down. Keep that in mind going forward, Bruno said.
Also focus on income
In addition to expenses, pay attention to your income, especially to deal with rages inflation, says Bruno. For example, social security is indexed to inflation. You may also have interest income from bonds.
Another decision that can be tricky is when to start taking Social Security. You can start at age 62, but each year of waiting until age 70 means your benefits increase. “So there’s a very rich benefit to deferring,” Bruno said.
You may want to withdraw pocket money from your investment portfolio. “Portfolio expenses aren’t always principal expenses,” Bruno said.
“There are income distributions, and when we have experiences with high interest rates, it can be more interest income for investors who have both stocks and bonds.”
Spending more from your wallet may be okay during this time, “because you might get the benefits later” in terms of higher Social Security income, Bruno said.
In terms of asset allocation, it’s important “more than ever” to ensure you have a globally diversified, low-cost portfolio of stocks and bonds, Bruno said.
You need to figure out what your goals are and then allocate assets to that, periodically rebalancing, she said.
“A starting point could be a target date fund,” Bruno said. These are funds that hold stocks and bonds. They are more weighted in equities when you are younger, then shift to bonds when you are older.
“At many financial institutions, there’s a whole range of balanced funds or target date funds, and that can be a good indicator for someone heading into retirement,” Bruno said.
“But you really want to customize that based on your specific goals and risk tolerance.”
On the cash side, “it might be acceptable to have a buffer of up to 18 months [of spending needs] in cash,” Bruno said. “But nothing more than that, there is an opportunity cost to not being invested in the market.”