Retiree Portfolio and Dollar Cost Averaging Portfolio

Offense wins games, defense wins championships.
- unknown

While we're sure to trip at times, the goal is not to fall.
- Todd Harrison


I've been debating today's topic for a few days now.  My main worry is not that the topic is controversial, but whether I can clearly articulate my point-of-view.  So with the caveat that these are my views based upon my risk tolerance, my time horizon, my investment objectives, and my desire to sleep at night, it's time to introduce the two portfolio's I commonly write about:

1. Retiree portfolio
2. Dollar Cost Averaging portfolio

As I cannot assume that everyone has read my previous articles, a little background on me from Maybe I'm Not a Lazy Investor:

I graduated college in the late 90s to a job with an S&P 500 software firm. Among my benefits was a 401k retirement plan with a generous company match of 50 cents on the dollar up to ten percent of my salary. Knowing a good thing when I saw it, I immediately enrolled into the 401k program for ten percent of my salary. After reading a few investment articles and talking to family and friends, I selected 4-5 stock mutual funds to diversify my fledgling nest egg. My primary screen was fund performance and low cost. 

Over the initial years, I have to admit a gratifying satisfaction watching my account balance rise with the stock market. I took up finance and economics as a minor hobby reading the occasional magazine article and watching CNBC. As with much of the nation, I was enamored with the idea of striking it rich in technology or Internet stocks. 

However this joy came to an end that I never saw coming. In March 2000, people decided that companies should earn a profit and not simply count how many eyeballs look at them daily. Over the next several months, the stock market crashed and so did my 401k. 

During this time, I did what I was supposed to do. I kept on buying, which dollar-cost averaged my nest egg into cheaper shares. Still, that didn't take the pain away. I decided that I needed to learn how to look for warning signs of future market crashes, as well as learn from my mistakes - such as not having diversified into a bond fund those initial years, which would have significantly cushioned the blow.  

...

October 2007 was a notable month as I decided to move on from the same software company to the position of stay-at-home dad. It was also notable as I couldn't get my retirement money out of the 401k plan and into a rollover IRA at Vanguard fast enough. While you might think I was in a hurry because Vanguard invented the low cost index mutual fund, you would be wrong. 

Since the Nasdaq Crash of 2000, I had become a voracious reader of economic and financial subjects. 

... 

This time I saw the financial storm on the horizon known as the US housing crisis, and I was determined to save my hard earned retirement nest egg.

The Genesis of My Retiree Portfolio

I am a huge proponent of dollar cost averaging.  The primary advantage of dollar cost averaging is buying more shares at lower prices should the stock market drop.

However being a stay-at-home dad, I no longer dollar cost average into my 401k as I have no income.  In this respect, my 401k resembles a portfolio of a retired individual, which is why I call it my Retiree Portfolio.  And like a retired person, my primary objective for this portfolio is capital preservation - I don't want to lose a lot of money if there is a foreseeable crisis.

Although I'm a proponent of lazy investing, I saw no reason to let the storm known as the 2008 Financial Crisis decimate my retiree portfolio.  So I tried to protect the portfolio from losses as best as this engineer-want-to-be-investor could by managing risk. Thus what you see in the table below are my Retiree Portfolio allocations.

 Table 1: Retiree Portfolio Asset Allocation

Fund/Asset	Percentage
Money Market Funds	~34%
Intermediate Treasury Bond Fund	~14%
Ginnie Mae Bond Fund	~10%
Inflation Protected Securities Fund	~17%
S&P 500 Index Fund	~4%
Total Bond Market Index Fund	~9%
Gold ETF	~12%

Please note that I selected the allocations in table 1 to help me weather the financial crisis.  This is NOT a recommendation for your portfolio.  Remember that I do not know you, your risk preferences, your time horizon, or your investment objectives. Furthermore you should not change your portfolio based solely on something that you read on this blog (or any blog for that matter).  Please review the disclaimer at the end of the article for more information.

As I mentioned in Stay True to the Path or Take the Fork in the Road, cash is a legitimate position.  The only risks to cash is inflation and missed opportunities.  In order to hedge inflation risk, I chose to buy a gold ETF and inflation protected securities.  For general protection in 2008, I thought bond funds would do well as any return is better than the negative return I foresaw in stock markets.  The Total bond market index fund provided general protection across short, intermediate and long term bonds.  I added intermediate treasuries because they provided a better yield than short term, but less potential risk than long term and corporate bonds.  Ginnie Mae bonds are government-backed mortgage securities that also provided better yields.

While I have made few changes since 2008, I may make significant changes any time now as I have considerable exposure to the bond market. While interest rate risk is not yet keeping me up at night, it is something that I think about regularly. Interest rates can only go so low before they begin to rise again.  When that happens, bonds will lose money. I'm still formulating a course of action. So if this article causes you to think, "I'm putting more into bond funds" - please understand that I believe that they are no longer the safe allocation as they are traditionally perceived.

In 2007/2008, my goal was simply to make it through the crisis without taking a significant loss.  While I'm disappointed to have missed out on the stock market returns since March 2009, I take comfort in the fact that losses I had were minimal and that this portfolio grew better than 15% since October 2007.  Though nothing to brag about, I'll take the smooth low returns over the experience of large losses when the stock market dropped over 50%.

Dollar Cost Averaging Portfolio

While I no longer contribute to a 401k, my wife does.  Additionally, she recently started with a new company, so I was excited to see what investment options were available.  As what has been typical in my 401k experience, there was a dearth of index funds.  However, here are the funds that I chose for her along with the overall allocation.

 Table 2: Dollar Cost Averaging Portfolio Asset Allocation

Fund/Asset	Percentage
S&P 500 Index Fund	15%
TRP Blue Chip Growth Fund	10%
Fidelity Low Priced Stock Fund	15%
MSIF Small Cap Growth Fund	15%
DFA Emerging Markets Fund	15%
Harbor International Fund	10%
Nuveen Real Estate Fund	10%
PIMCO Total Return Fund	10%

Again, table 2 is NOT a recommendation for your portfolio.  Remember that I do not know you, your risk preferences, your time horizon, or your investment objectives. Furthermore you should not change your portfolio based solely on something that you read on this blog (or any blog for that matter).  Please review the disclaimer at the end of the article for more information.

Looking at the table above, you may be shocked to see 90% allocated to stock funds and only 10% to bonds.  Here is my rationale for these selections:

As my wife started recently, there have been minimal contributions to this account. Hence there is no significant account balance to be lost. As there is no significant balance, a large stock market loss means the next contribution very quickly averages the overall cost per share down. Thus I'm choosing funds that are considered more risky, like small company, mid-company, emerging markets, international stocks, and real estate. While this may seem counterintuitive to some people, I experienced the positive results when the stock market rose from the 2000 crash until 2007.

Additionally we have a long time horizon, so we can wait out any downturn.  Within this time horizon, small and medium companies should grow.  So I have allocated 30% of funds towards these categories. Likewise, I believe that international stocks will grow well as other nations want to be prosperous like the U.S.  Thus 25% of funds are allocated to international and emerging markets.  Also, bond rates will at some point rise.  While bond funds will lose money when that happens, dollar cost averaging enables me to again buy cheaper shares.

By now you've probably realized that I'm treating the dollar cost averaging portfolio on the complete opposite end of the spectrum as the retiree portfolio.  Again with regular contributions, my wife's portfolio is managing market pricing risk by buying cheaper shares in any downturn.  Even though we're in our mid-to-late 30s, this portfolio illustrates the advantage of a long time horizon, which is being able to weather more risk.

Parting Thoughts

I chose today's quote because much like sports, investing isn't about a single game - it's about the whole season. Championship teams can lose a few games during the season. However in order to win the season, you must have a defensive strategy to manage risks. Dollar cost averaging is one proven method to play defense in your retirement strategy.

In my Retiree Portfolio, I concentrated entirely on defense by selecting bond funds.  This worked - though not everyone wants or has the ability to actively monitor and manage risks.  This is why lazy investing shines, and one reason why I recommend lazy portfolios. Lazy portfolio's are another defensive strategy.  No doubt this is one of several reasons why many investment professionals use them.

For more information on lazy investing, check out:

• Lazy Portfolios on Marketwatch

Or look for the following books at your library:

• The Little Book of Common Sense Investing by John C. Bogle
• Millionaire Teacher by Andrew Hallam

Disclaimer: Please remember that I’m just a guy sharing information on a blog, and this is NOT official investment advice. Any action that you take as a result of information, analysis, or advertisement on this site is ultimately your responsibility. Please consult your investment adviser before making any investment decisions. During your conversation with said investment adviser, ask why they believe in their recommendation. If you are not convinced by their explanation, any action that you take or forego is also your responsibility. Just in case you missed that, you are responsible for your investments.

With that said, don’t let your investments keep you up at night. If they do keep you awake, you may be taking more risks than you are comfortable with. Talk to a professional about reallocating to less risky investments so that you can sleep. During your conversation with said professional, ask why they believe that their recommendation is less risky. If you are not convinced by their explanation, don’t invest. Remember:

1. It’s your nest egg.
2. Opportunities are easier to make up than losses.

Stay True to the Path or Take the Fork in the Road

The years rolled slowly past
And I found myself alone
Surrounded by strangers I thought were my friends
I found myself further and further from my home
And I guess I lost my way
There were oh so many roads
I was living to run and running to live
Never worried about paying or even how much I owed

Against the Wind - Bob Seger

So here I am 3 blog's into this endeavor, and I'm already contemplating how my messages are coming across to you.  Are they striking the right cord or am I missing your pain?  Am I coming across as a long term investor or someone who trades daily? Are you learning anything?  Is what I'm covering fresh or was it talked about on the 6 o'clock news?

Then I remember an email I got a few days ago:

... I wouldn't worry about writing to the masses. Write stuff that is most important to you and make that your target audience. Your personal quips and passion will draw interest. Build it for you and others will come.

With that in mind, I turn away from the news and share an article from Minyanville that struck a cord with me: Pre-Eating Some Crow in the Analytical Trap

There's a trap that's easy for analysts to fall into. Let's imagine you've been bearish for a while and anticipating a top. Let's also imagine that the market has continued going up anyway, and yet continues to give signs of a top... but it hasn't actually topped (read: a bit of self-flagellation). The longer this goes on, the more you are becoming increasingly trapped by your own prior analysis. The signs are all there for a top, and are actually increasing, but the market's kept rallying anyway. What do you do?

Do you shift your stance to bullish? Well, you can't really just jump in and randomly start buying, because the rally is long in the tooth, the indicators are overbought, and every objective piece of evidence says the rally is due for a pause at the minimum. Do you continue looking for a top? That's challenging, because the market is blowing up the bear view and busting through resistance levels like they weren't there -- plus you're starting to feel like the boy who cried wolf.

And then the real psychological trap comes: What if you shift to a bullish stance right before the market tops? Oh, the humiliation! If only you'd held onto your views for a couple more days. I think this is a trap that a number of analysts have fallen into, which locks them into being on the perpetual lookout for a top.

While this article refers to short term trading and not long term investing, it broadly applies to me. The article also saved me writing a bit of text, and after last night's writers block, it's much easier to give Jason Haver credit while raising my hand to say "me too!"

For the last 4+ years, I've been of the opinion that the risk of being invested in equities is far greater than the potential reward. The reason is simple, everything that politicians and central bankers have done to try and fix the global economy address the symptoms of the disease and not cure the disease itself.

So what is the disease? Too much debt.

What are the symptoms? Lack of consumer and business demand. Lack of credit available to individuals, banks, businesses, and governments. What is the political/central banker solution? Stimulus packages, bailouts, low interest rates, refinancing operations, quantitative easing (QE), and more borrowing & lending.

How do these solutions address the symptoms?  Let's review Table 1: Solutions Addressing the Symptoms.

 Table 1: Solutions Addressing the Symptoms

Solution	Objective	Complication
Stimulus package	attempt to stir up consumer and business demand by getting them to spend money the government either taxes or borrows.	The problem though is higher taxes reduce demand by reducing the money consumers have. The problem with borrowing is once the money runs out, consumer and business demand fall again plus overall debt has now increased.
Bailouts	prevent losses to bank bond and equity holders, which in theory encourages lending.	Taxpayers pay for poor risk management decisions yet never receive any benefit or profit from good decisions. In times of crisis, credit is tight regardless of bailouts.  People that need credit cannot get it, people that can get credit do not want it.
Low Interest Rates and Refinancing Operations	enable banks to receive cheap funding which they can then lend out for a profit.	Low interest rates and refinancing operations rob savers. Interest payments due to them gets paid to banks, which borrow from savers at 0.25% and lend at 2%+.
Quantitative Easing (QE)	create (print) new money to buy bonds from investors, which in theory stimulates economic growth by encouraging further investment.	The Federal Reserve has no control over what investors do with the new money. Investors always look for the best rate of return.  Since money is more abundant now, they invest in everyday items such as food and energy commodities causing prices to rise - think about that next time you buy gas and groceries.

Please note that none of the above "solutions" reduce debt. The only cure for too much debt is paying it off, restructuring it or defaulting on it - not bailing out, borrowing up, or easing. Those solutions work wonders in equity markets as I can sorely attest to missing the better than 100% gain since the market bottom in 2009. Yet until policymakers deal with curing the disease, the problem of too much debt remains, which means that the stock market crash and recession of a few years ago can happen again.

The time for prevention is long gone, it's time for an ounce of cure. And then I will invest.

So Here's What I'm Pondering Over


It's tough out there. For what it's worth, I know I'm not the only person out there that feels this way. I've had friends that know my interest in investing ask me what's going on, what should I do, where should I invest? Believe me when I say that I'm asking myself the same questions.

So as we all struggle to find our way through our present financial journeys, let me share the risks I see in the following investment classes.

• Stocks - were a roller coaster last year with almost the same starting point and ending point. This year, they're on fire. My trouble though is how quickly things can turn if a crisis erupts. Stocks get sold as people lock in profits/limit losses. If they fall far enough, margin calls go out and more assets (whether it's stocks, bonds, or gold) get sold. When this happens, investors do not always get to choose what they sell.
• US Government Bonds - did well last year due to the flight to safe assets by investors around the world. Foreigners buy US bonds not just to finance our spending habits, but also because they are thought of as a safe haven when world stock markets are falling. However as alluded to in James Bond Isn't the Only Dangerous Bond, bonds are not risk free. The US cannot keep borrowing at low costs forever. Once foreigners can earn a better return in their home markets, they will demand more of a return in order to keep their money in US bonds. When that happens, bonds will lose money - potentially a lot of money.
• Corporate Bonds and Municipal Bonds - are tempting because they always pay a higher interest rate than US government bonds as they are deemed to be slightly more risky. Yet they still have to obey the same credit market as government bonds, which means that when interest rates rise, corporate/municipal bonds will lose money too.
• High Yield Bonds - otherwise known as junk bonds, provide potentially high returns, but are among the first to get whacked when credit markets tighten.
• Inflation Indexed Bonds - pay a small interest rate plus additional interest based upon the US consumer price index (CPI). As they pay more when the CPI increases, I favor these over the other bonds. However I have a tough time thinking that these are more than a nice house in a bad neighborhood.
• Gold - whether it's gold, gold ETFs or gold miners, I am invested here to insure against too much QE and/or too much additional borrowing by the US government. Plus, gold held up pretty well during the last crash. Gold miners are attractive to me because they have a relatively fixed cost per ounce of gold retrieved. Any price increase in gold is profit.
• Commodities - are attractive to me for the same reason as gold, it's a hedge against money debasement. I especially like one thing we all need - food. Energy is also attractive though if there is a worldwide recession, it will take a fall until demand is restored. The only downfalls of this asset is there are relatively few choices for small investors. Also the choices available tend to be costly when compared to an index mutual fund.
• Cash - is a legitimate position. People will say that you lose money to inflation, which I do not deny. However I sleep better at night knowing that potentially large losses from a market crash are not possible.

I'd like to reiterate that my thoughts above reflect my attitude towards my 401k retirement money. As I am no longer employed, I no longer contribute to my 401k. Hence I cannot dollar cost average into lower priced shares when the market falls. In that regard, I like to compare my situation to that of a retiree. Capital preservation is key for me right now.

If I were still employed, I would be contributing to mutual and money market funds.  Dollar cost averaging with regular contributions is a powerful method to come out ahead once our economic problems are solved. I strongly recommend this strategy to everyone.

With that said, don’t let your investments keep you up at night. If they do keep you awake, you are taking more risks than you are comfortable with. Talk to a professional about reallocating to less risky investments so that you can sleep. During your conversation with said professional, ask why they believe that their recommendation is less risky. If you are not convinced by their explanation, don’t invest. Remember:

1. It’s your nest egg.
2. Opportunities are easier to make up than losses.

Disclaimer: Please remember that I’m just a guy sharing information on a blog, and this is NOT official investment advice. Any action that you take as a result of information, analysis, or advertisement on this site is ultimately your responsibility. Please consult your investment adviser before making any investment decisions. During your conversation with said investment adviser, ask why they believe in their recommendation. If you are not convinced by their explanation, any action that you take or forego is also your responsibility. Just in case you missed that, you are responsible for your investments.