Ever been to an Oklahoma City Thunder game and caught a t-shirt? The t-shirt cannon is one of the most popular spectacles at any sporting event. Crowds cheer as the mascot fires the shirt into the stands, and despite the fact that all these t-shirts are the same size (XL), fans of all ages go crazy trying to catch one.
A free t-shirt that’s the wrong size is no big deal, but let’s say your retirement portfolio does not fit your needs and goals. That could really trip you up.
When it comes to retirement planning, no two savers have identical risk tolerances and time horizons, nor do they have the same goals and aspirations in retirement. In order to build the right retirement portfolio, you need to consider all your available options, but you also need to self-assess your financial situation.
If you’re looking for a one size fits all roadmap to retirement success, you won’t find it here, or anywhere. Financial advisors would be seeking new careers if retirement planning was a one-size-fits-all endeavor. But if you want to know how to ask the right questions and adjust your strategy as time rolls on, you’ve come to the right place.
Assess Your Financial Goals and Future Needs
The retirement portfolio of a young, single employee who just opened an IRA is going to look very, very different from that of someone with a family and decades of work experience under their belt. The construction of your portfolio will vary greatly depending on where you are in your journey to retirement.
Your retirement portfolio won’t just be a handful of stocks. Instead, a quality retirement portfolio will have different ‘buckets’ for various assets depending on their class and expected return. Many advisors suggest having short, medium, and long-term buckets with different types of assets in order to balance growth and income production.
First, consider your time horizon. How many years do you plan to remain in the workforce and build your nest egg? A good rule of thumb is to consider an annualized rate of return over your decades of saving. Some years will be better than others, but you want to shoot for an average of 7-9% annualized return over a 10 to 20 year period. Not every year will yield the same returns.
If you can expect to withdraw about 3-4% of your assets annually in retirement, a 7-9% average annual return over two decades should provide enough to live comfortably in your golden years. But again, one size does not fit all and you’ll need to adjust the makeup of your investments periodically to remain on the proper path.
Using Different Investments to Your Advantage
Some asset classes make more sense than others in certain situations. Most investors know it’s usually a good idea to put growth stock mutual funds in accounts like a 401(k) where the tax break is upfront and income-producing assets in a Roth IRA where gains and dividends accumulate tax-free. But how does your asset allocation change over time?
A young worker with a 30-year time horizon can probably invest entirely in inequities when they’re starting out. But a portfolio that’s made up of 100% stocks doesn’t make much sense for a retiree looking to preserve their capital.
A retirement portfolio should be focused on growth early on, but a retiree hoping to tap a certain percentage of their assets each year needs a steady flow of income-producing securities. Here are a few assets that focus on income as well as growth:
- Retirement Income Funds – Many Americans put their 401(k) money to work in a Target Date Fund, a mutual fund that automatically and gradually lowers its risk level over time by switching up investments within the fund. Retirement Income Funds (RIFs) are actively managed mutual funds too, but they seek to keep the risk tolerance flat by providing a consistent dividend payout that is usually 2.5-3.5%. The RIF portfolio is extremely conservative, but even risk-averse funds can lose money in market drawdowns.
- Mutual Funds vs Annuities – Annuities can either be fixed (a safer option), or they can be variable. If you’ve maxed out your tax-deferred retirement vehicles such as your 401k, or IRA, an annuity can be another way to add funds on a tax-deferred basis. But Index mutual funds can provide lower costs, offering potentially higher returns than annuities over the long haul.
- Bond Ladders – A bond is basically a loan: you purchase security from a government or corporate entity and receive bi-annual interest payments (called coupons) over the life of the loan, then your principal back at maturity. The predictability of bonds makes them attractive, but returns are often lower on the safest bonds. One strategy is to create a bond ladder using bonds of different classes that mature at different dates. A well-layered bond ladder can provide much-needed retirement cash flow and allow your other assets to be placed in higher growth securities.
Adding Real Estate to the Mix
Real estate isn’t as liquid as a portfolio of stocks and bonds, but the property is another revenue source for retirees who don’t want all their assets in the financial markets. Home equity can be a tremendous source of capital in a pinch as interest rates remain near historic lows, but consider rental properties if you’re looking for an additional source of income.
Owning a rental property might not be exactly “passive” since you still need to vet tenants, collect rent, and handle maintenance, but well-maintained rental properties can provide consistent and predictable income like a bond, only on a monthly basis instead of twice a year. Properties can even be placed in your IRA, but you’ll need to follow specific rules.
Buying physical property isn’t the only way to gain exposure to real estate either. Real estate investment trusts (REITs) are securities traded on public exchanges that invest entirely in income-producing properties. REITs must pay out 90% of their profits to shareholders, which makes them ideal vehicles for consistent dividend income.
Preparing for Taxes
All the meticulous planning in the world won’t matter without a tax planning strategy. Taxes will take a bite out of your nest egg and there’s little you can do to avoid it unless you plan on breaking the law (don’t break the law). But you can reduce your taxes and save money when you invest smartly.
One of the best ways to minimize your tax bill is by utilizing a Roth IRA. Since Roth IRA contributions are made with post-tax dollars, all investment growth inside the account is tax-free. Combining a Roth IRA with traditional retirement vehicles like a 401(k) account can help reduce your tax bill without cutting off your income.
For example, let’s say you need to withdraw $10,000 for an unplanned medical bill. If you’re up against the ceiling of your current tax bracket, you might pay an unnecessarily high tax bill on that withdrawal. But if you have funds in a Roth IRA, you can tap those (provided you’re older than 59.5) to finance your medical bill.
It’s never going to be “nothing but net”, but when planning the right portfolio, it’s a very good idea to have an excellent coach. An experienced financial advisor can put together the right playbook to help you advance and win your way to retirement.
TRAC Advisor Group Inc. is a full-service, fee-based financial advisory firm in Norman, OK. We offer independent investment advice and help people withstand any type of market volatility with confidence.
As an independent investment advisor, we can offer alternative investments like numismatics and precious metals to diversify and hedge against uncertain times. With a straightforward and direct planning style, you can trust that we’ll keep you on track towards your financial goals.