I wonder how often we financial writers parrot the conventional wisdom and say what we’ve been conditioned to say even if it doesn’t always make sense.
Things like invest for the long term.
I’ve thought about this a lot after a talk I gave in a retirement village, just about the time the stock market was falling 100 points a day. When I asked for questions from the audience, the hands went up right away.
“We are in our 60s and 70s,” a man said. “We don’t have a long term. What do we do with our money now?”
Actuaries and a few financial planners will jump in and argue that, yes, people in their 60s and 70s can expect to live maybe another 20 years and need to invest “for the long term.”
That is no doubt true statistically, but it totally ignores the need to protect the money we need to live on right now, not to mention the emotional trauma of seeing a big chunk of our nest egg evaporate.
For those with many years ahead of us, investing for the long term remains sage and solid advice. It’s how my wife, Georgina, and I have turned middle-class paychecks into a $1.3 million-plus nest egg.
But now that we’ve passed 50, and while we are still investing for the long term, we’ve also begun to reduce risk and protect what we have.
Our system is not to think of our money as one pile but rather as different piles, or buckets. From time to time, we will move money from one bucket to another to keep each one full.
Bucket No. 1 holds an amount of money equal to what we expect to spend in the next three years, plus a six-month emergency reserve. This money is kept liquid and away from market risk: bank deposits, money market mutual funds and short-term Treasurys and higher-quality bonds maturing in three years or less.
Bucket No. 2 holds an amount of money equal to what we expect to spend in the seven years after the next three. We assume market risk here but stick to more conservative investments: low-volatility growth and income mutual funds, high-quality dividend-paying stocks, intermediate-term bonds. As need be–if our savings and investment returns are not enough to keep Bucket No. 1 full in the future–we’ll move money out of Bucket No. 2.
Bucket No. 3 holds money we know we won’t need for at least 10 years. We can afford to invest more aggressively here: growth, aggressive growth and international funds, smaller-company stocks, longer-term and high-yield bonds. Most of our savings have been going here over the years, but some have gone recently to Bucket No. 1 to fill it to the brim.
While we are quite happy with it, I suspect this “bucket” system of financial planning can be criticized in many fronts.
Bucket No. 1 has far more money than financial advisers suggest working people need to keep in cash or cash equivalents. That’s definitely true for younger people.
Any moves from one bucket to the other imply you’ve sold an investment and may be liable for capital-gain taxes. The whole portfolio is not as tax efficient as we would like.
You may lose sight of your overall financial picture and not see the forest for the trees.
Over the long term, your investments are likely to make less money than if you simply take your total nest egg and follow an “asset allocation model” suitable to your goals and tolerance for risk. (That means putting so much of your money in stocks, so much in bonds, so much in cash.)
I hear the criticisms and they don’t move me.
As to losing sight of the total picture, that won’t happen. We have written down a plan that says how much money we want to have overall, and in each bucket, at the beginning of each year for as long as we live.
And as to possibly not making as much with our investments, we are willing to pay a price–and we don’t think it’s all that much–for peace of mind. After so many years of saving and investing, Georgina and I are not interested in putting our entire nest egg in stocks and seeing a quarter million dollars evaporate in a 20 percent bear market.
In fact, as we get older, Georgina and I may decide to increase the amount we keep in Buckets 1 and 2.
It’s quite different when you are younger. First, you have more time to recover from a market loss. Getting a higher rate of return from a more aggressive investment also translates into enormous differences in the amount of money you accumulate.
But as you get older, and there is less time left, the impact of a loss is harder to shake off. Say your investments lose 12 percent one year, which would be hardly unusual. If you then make 12 percent for the next four years you’d be worse off than if you simply made 7 percent a year.
Given those numbers, investing “for the long term” regardless of your personal circumstances seems rather foolish to me.
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Humberto Cruz welcomes questions and comments from readers. Although he cannot respond to each one individually, he will answer questions of general interest in his column. Write to him c/o Tribune Media Services, 435 N. Michigan Ave., Suite 1400, Chicago, Ill. 60611. E:mail messages to: HCruz5040@aol.com.
