More Aggressive AA Post Home Purchase

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Ignatious P. Daily
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More Aggressive AA Post Home Purchase

Post by Ignatious P. Daily »

Hi all - my wife and I (ages 35 and 34) have been running a 75/25 Asset Allocation for a number of years. During that time we were renters. Our monthly expenses were roughly $9,000. Our monthly savings were ~$8,000 per month. This was comfortable for us.

We will be closing on a house in the next 45 days. We are paying cash and the cost represents ~65% of our total portfolio. We are very happy with the decision to buy cash and highly value being debt free. Our new monthly expenses will be roughly $6,000, and could easily be reduced under $4,000 per month with minimal belt tightening. Our new monthly savings will be ~$11,000 per month.

Given this new cash flow position we believe our ability to take risk has increased. When thinking about that within the context of taking 65% of our current portfolio and converting it to housing, we believe it makes sense to increase our equity allocation for the next 5 years. We are toying with a 90/10 Asset Allocation for the next 5 years, followed by a period where we build bonds from contributions until we arrive at our final goal state of 60/40. I think this will be about a 10 year plan.

Thoughts and feedback on this?
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Ignatious P. Daily
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Re: More Aggressive AA Post Home Purchase

Post by Ignatious P. Daily »

51 views an no opinions?
LukeHeinz57
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Re: More Aggressive AA Post Home Purchase

Post by LukeHeinz57 »

I think you are in good shape either way you go and nothing within the range of options you are looking at is unwise. Personally I'd probably just go to 80/20 and maybe if there's a correction put some of that Bond money to work and get towards a 90/10? It seems like switching to 90/10 overnight given the relative heights of the market could leave you wishing you hadn't. But I understand the desire to take a little more risk for greater reward so that's why I say 80/20. Just one guy's thoughts you have to do whatever you are most comfortable with. :)
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Chan_va
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Re: More Aggressive AA Post Home Purchase

Post by Chan_va »

You are justifying a higher stock allocation based on a higher monthly cash flow - Imagine if you got a raise tomorrow, and were still renting. Would that make you change your asset allocation?

I am not saying that 72-25 is better than 90-10, but make sure you are doing it for the right reasons. You may be subconsciously wanting to quickly build back the 65% of the portfolio that you put down for the house, and looking at a 90/10 AA as the way to do that. At the end of the day, there probably isn't a huge difference between 90-10 and 72-25, but if 90-10 is right for you for a retirement portfolio now, it was a year ago too.
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retiredjg
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Re: More Aggressive AA Post Home Purchase

Post by retiredjg »

It might be fine. It might not.

What was your stock to bond ratio in 2007- 2008 when the market crashed? If you were near 90/10 and sailed through that without a moment's bit of worry or crabbiness, 90/10 would likely work fine for you. If you were at 75/25 back then, do you think that seeing more of your money disappear won't be any problem at all?

If you either weren't investing much or not paying attention during that last crash, I see no reason to go nearer the cliff than your current comfort level. There is a little that could be gained but there is a lot that could be lost if you capitulate and sell in a crash.

Having your house purchased and paid for might change the numbers in your risk assessment, but it will not change how your gut feels when things go haywire. Don't underestimate the importance of emotions when it comes to investing. Most of us are not Spock.

Some of us believe that a portfolio needs 20% bonds even for young people. You should get more return for risk at 80/20 than at 90/10.
Twins Fan
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Re: More Aggressive AA Post Home Purchase

Post by Twins Fan »

I would agree you have the ability to take risk after the home purchase. But, do you need to take addtional risk at that point?

With a paid off home and a savings rate of $132k/year, I'd say you should be sitting pretty 10 years from now whichever route you choose... even going to 60/40 after purchase. I would go into coast mode if I were in your position. Leave it as is with 75/25 for a while if you like, or start towards 60/40 soon after purchase. JMO
physicsgal
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Re: More Aggressive AA Post Home Purchase

Post by physicsgal »

Wow, it's sometimes insane to me that people on this board spend or save more in one month than I make pre-taxes (~$4.4k), yet most of the advice scales pretty well up or down.

If you own your home outright I think you can take a more aggressive approach, but only IF you know you have the mental toughness to not sell in a downturn. I think AA is not just about risk of loss but also about psychology and whether you and your wife can ignore the noise and stick to your aggressive AA no matter if the sky is falling around on yahoo finance, which it seems to be about every other day these day. But if you are good at long term thinking and won't flip at the next market correction, go for it.
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Ignatious P. Daily
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Re: More Aggressive AA Post Home Purchase

Post by Ignatious P. Daily »

Chan_va wrote:You are justifying a higher stock allocation based on a higher monthly cash flow - Imagine if you got a raise tomorrow, and were still renting. Would that make you change your asset allocation?
The way I am looking at it is justifying higher stock allocation based on lower fixed monthly expenses and what I would call a shift in net worth risk towards conservative with the purchase of the house. This does net a better cash flow through reduction of expenses. Another way to say this is that 65% of my portfolio is now in an asset that is guaranteed to pay me the amount of my next best housing consumption option (in this case renting at $3k+ per month). If thought about that way, 65% of my portfolio is now allocated to a similar risk profile as short term bonds... unless being homeless was a realistic option. So the thought about triggering an event where suddenly I am way over conservative is my concern here. At the same time, my cash flow position affords flexibility in options.
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Ignatious P. Daily
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Re: More Aggressive AA Post Home Purchase

Post by Ignatious P. Daily »

retiredjg wrote:It might be fine. It might not.

What was your stock to bond ratio in 2007- 2008 when the market crashed? If you were near 90/10 and sailed through that without a moment's bit of worry or crabbiness, 90/10 would likely work fine for you. If you were at 75/25 back then, do you think that seeing more of your money disappear won't be any problem at all?
.
I was 100% equities during the crash. I continued to contribute on auto-pilot. It wasn't too hard for me, but I was also single and did not have a beautiful wife and baby girl. That said, I probably would feel more comfortable with more safe liquidity. Maybe the answer needs to be that if I do not have conviction that 90/10 is right, I should stay with 75/25. Will think on that. Thanks!
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Ignatious P. Daily
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Re: More Aggressive AA Post Home Purchase

Post by Ignatious P. Daily »

Twins Fan wrote:I would agree you have the ability to take risk after the home purchase. But, do you need to take addtional risk at that point?

In thinking about this I think I arrived at the root of my impulse... It erks me to have $x in equities before the house purchase and $x-y in equities after. I may be rationalizing a more aggressive allocation in order to get back to my previous equities levels more quickly. This may not be the best foundation for a decision.
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Ignatious P. Daily
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Re: More Aggressive AA Post Home Purchase

Post by Ignatious P. Daily »

physicsgal wrote:Wow, it's sometimes insane to me that people on this board spend or save more in one month than I make pre-taxes (~$4.4k), yet most of the advice scales pretty well up or down.

If you own your home outright I think you can take a more aggressive approach, but only IF you know you have the mental toughness to not sell in a downturn. I think AA is not just about risk of loss but also about psychology and whether you and your wife can ignore the noise and stick to your aggressive AA no matter if the sky is falling around on yahoo finance, which it seems to be about every other day these day. But if you are good at long term thinking and won't flip at the next market correction, go for it.
Thanks and I agree with you. I think I am more concerned that ego (i.e. wanting to get back to the level of equities pre-purchase of the home) may be driving, and rationalizations are just an expression of the ego in control. Ego being in control is a VERY bad thing.
Twins Fan
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Re: More Aggressive AA Post Home Purchase

Post by Twins Fan »

Once you take the money out of the portfolio to purchase the house, I would call that gone and no longer part of the portfolio. Still part of the net worth, but home and investment portfolio seperate at that point.

Having been a homeowner through the recent crash and in an area not even hit all that bad, I can say it certainly didn't feel like I was holding a short term bond fund as the value went down. I wouldn't think of it as that safe...
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retiredjg
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Re: More Aggressive AA Post Home Purchase

Post by retiredjg »

I was 100% equities during the crash. I continued to contribute on auto-pilot. It wasn't too hard for me, but I was also single and did not have a beautiful wife and baby girl.
The one thing you didn't mention is how your beautiful wife weathered the crash. If she is not/was not as fearless as you then 90/10 is likely to be a bad idea.

That said, I probably would feel more comfortable with more safe liquidity. Maybe the answer needs to be that if I do not have conviction that 90/10 is right, I should stay with 75/25. Will think on that. Thanks!
That sounds more reasonable to me. 75/25 is still plenty aggressive and it is your savings rate that will make you wealthy, not the difference between 75% stocks or 90% stocks.
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Phineas J. Whoopee
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Re: More Aggressive AA Post Home Purchase

Post by Phineas J. Whoopee »

Although I exclude it from my retirement portfolio calculations, in net worth I include home equity as equity. I don't pretend it's a bond to use it to talk myself into holding more stocks. In fact, I've recently reduced the risk of my retirement portfolio, its having touched a targeted multiple of living expenses, per my IPS.

I sold a lot of equity in taxable, in terms of stock mutual funds and the (mostly luck) end result of one employer stock option grant they made available to every employee, in the (mostly luck) late summer of 2006, to prepare to buy a place, my having just then committed to myself that I would, so it seems appropriate to me to calculate the way I've chosen. Real cashflow break-even vs. my former rented domicile shows up in a little under five more years, including all aspects, such as capital gains taxes, closing costs, and interest.

My having paid off the loan for the purchase, the asset decreases the monthly cash I need to spend on housing. That, if anything, is the return, excluding any residual value come 2019.

I set my retirement asset allocation as if Social Security didn't exist (although I'm confident it will, perhaps with a benefit lower than present congressionally-mandated formulae say), and taking into account my lower ongoing housing costs which result from my having poured equity into the asset I'm inside of just now as I write.

PJW
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Ignatious P. Daily
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Re: More Aggressive AA Post Home Purchase

Post by Ignatious P. Daily »

I spoke with my wife and believe we have settled on a conclusion. I believe the desire to move up to a 90/10 is being driven by ego (in my wife's terms... "the wrong head"). I do not believe ego at the helm is in any way beneficial. Since I do not have conviction in the move to 90/10, I will stay with 75/25. Mentally I will adjust to seeing a lower account balance and get excited again by re-achieving milestones. This puts discipline at the helm - a driver who has benefited me greatly to date.

Thanks for the perspectives and help in thinking this through.
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retiredjg
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Re: More Aggressive AA Post Home Purchase

Post by retiredjg »

Sounds about right to me. :D
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grabiner
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Re: More Aggressive AA Post Home Purchase

Post by grabiner »

One way to look at the situation is that the amount of income you will need in retirement has been reduced, since you will own a house and thus won't need to pay rent. Thus, if your portfolio is the same size, you may now be saving less of it for your needs in retirement, and more for luxuries in retirement or for your children's retirement. This gives you more capability to take risk.
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