The year 2022 hasn’t been kind to stocks and bonds. The S&P 500 has dropped 23%, and the Bloomberg U.S. Aggregate bond index has slid 14%.
That makes things dicey for retirees, who may have to sell some of their stocks and bonds to finance spending. But dumping those assets at low prices can shrink the size of your portfolio markedly.
Morningstar discussed how retirees, particularly new ones, can address this problem with Maria Bruno, head of U.S. wealth planning research at Vanguard.
First, consider cutting spending when the value of your portfolio slides. “We talk a lot about focusing on the things you can control in investing,” she said. “Spending is certainly one of those.”
The first step is looking at discretionary versus non-discretionary spending. “Are there any [areas] you can flex on, those nice-to-have expenses?” she said.
It’s also important to control spending when markets are rising, so that you have a buffer when they fall. Keep that in mind going forward, Bruno said.
Focus on Income Too
In addition to spending, pay attention to your income, especially to deal with raging inflation, Bruno says. For example, Social Security is indexed to inflation. You also may have interest income from bonds.
Another decision that can be tricky is when to begin taking Social Security. You can start at age 62, but every year you hold off, until 70, means an increase in your benefit. “So there's a very rich benefit to deferring,” Bruno said.
You may want to take spending money from your investment portfolio. “Spending from the portfolio isn't always spending principal," Bruno said.
“There are income distributions, and when we have experiences with high interest rates, that may be more interest income for investors that have both stocks and bonds.”
Spending more from your portfolio may be ok during this period, “because you may be getting the benefits later” in terms of higher Social Security income, Bruno said.
In terms of asset allocation, it’s important “more now than ever” to make sure you have a globally diversified, low-cost portfolio of stocks and bonds, Bruno said.
You need to determine what your goals are and then allocate assets to that, rebalancing periodically, 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 to stocks when you’re younger and then shift toward bonds when you’re older.
“At many financial institutions, there's a whole array of balanced funds or target-date funds, and that can be a good proxy for someone who is heading into retirement,” Bruno said.
“But you really want to personalize that based upon your specific goals and risk tolerance.”
On the cash side, “it might be ok to have a buffer up to 18 months [of spending needs] in cash,” Bruno said. “But anything more than that, there's an opportunity cost to not being invested in the market.”