Pensions as pert of bond allocation

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Pensions as pert of bond allocation

Post by Dalelatham » Fri Apr 25, 2014 4:35 pm

I am recently retired at age 60 with substantial investments in Vanguard index funds, and an approximate 65/35 stock/bond allocation. William Bernstein suggests in "The Four Pillars of Investing" (p278) that the net present value of my social security and pension should be considered as part of my bond allocation. If I follow this advice, I would change my allocation in my Vanguard funds to something closer to 90/10. The advisors at Vanguard disagree with Bernstein's recommendation, citing that the advantages of the negative correlation between stock and bond prices. They tell me their models don't consider this "pension issue."

1. Does anyone on this blog have any opinions on this issue?
2. Are there any journal articles, books etc. that addressed this issue?

Dale L.

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Re: Pensions as pert of bond allocation

Post by HIinvestor » Fri Apr 25, 2014 7:27 pm

Here's the most recent thread on the subject. We also have a significant pension that will more than pay for all our expenses now and after either of us dies. It does seem to give you more latitude on how you want to divide things up. One issue is that you will still have the RMDs if you have tax-deferred accounts, once you reach the age of 70.5. You MAY wish to put at least a portion of tax-deferred funds into bonds or similar less volatile assets, so you won't be forced to liquidate much during any period when the asset has decreased in value. ... 0&t=134006

We have an appointment with our Vanguard advisor on Tuesday and will see what he suggests, given the DB pension with COLA as a portion of our portfolio, as well as rental income.

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Re: Pensions as pert of bond allocation

Post by LH » Fri Apr 25, 2014 11:43 pm

Pensions, home equity, career, are qualitative factors influencing your AA stock bond split.

Need, desire, ability to take risk.

Age/life cycle stage

AA stock bond split is a mix of those things.

Just for flavor..... Say

1) has a 300k house fully owned, in a stable neighborhood, has 100k portfolio 90 stocks/10 bonds at age 40 years.

2) rents. Has a 100k portfolio 80/20 split

Who is more risky? Who is more exposed to stock risk as a portion of net worth? It's clearly 2 I posit.

Going from 65/35 without considering pension, to 90/10 considering pension as the only addition to the thought process, does not make qualitative sense, unless a lot of other things line up, need, ability, desire, lifecycle stage etc, to enable that to be such a big fulcrum.

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Re: Pensions as pert of bond allocation

Post by Professor Emeritus » Sat Apr 26, 2014 12:27 am

LH wrote:Pensions, home equity, career, are qualitative factors influencing your AA stock bond split.
Pensions and non portfolio assets are not in any sense "qualitative "factors. They are QUANTITATIVE factors that are parameters for the portfolio Asset allocation. They may be static or dynamic. They have both risk and uncertainty and are often far more difficult to analyze than the fairly trivial "toy problem" of portfolio asset allocation. They are the structure for a model as opposed to the data in the model. In portfolios they involve the question "what function do you expect the portfolio to perform?"

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Re: Pensions as pert of bond allocation

Post by HIinvestor » Sat Apr 26, 2014 3:19 am

That's a good point. If your entire portfolio is "play money," to be used for legacy or extras, it's one scenario. If the funds will be part of the money you will need for near term spending in retirement, it's important to consider less volatility.

I agree that it's important to consider the solvency of the organization who offered the pension, payout terms and any COLA, etc. in my mind if the pension is offered by Detroit vs a Apple vs the US government, these are factors that affect likelihood of terms being honored vs bankruptcy reorg and significant pension reductions with accompanying reflection of risk in AA. The more at risk your pension, the more conservative an investment strategy I'd consider.

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Re: Pensions as pert of bond allocation

Post by Dandy » Sat Apr 26, 2014 7:00 am

I really respect Bernstein and Bogle. Having a pension allows you to take more equity risk than if you didn't have it. So does Social Security, good health, a paid off house, no debt etc. The ability or freedom to take more risk doesn't mean you have to. Bernstein also said that you should have 20 to 25 years of your projected retirement withdrawals invested in safe products e.g. CDs, short term bonds/funds etc. and then you can invest the rest anyway you like.

My opinion is that retirement is a major financial event. You are usually leaving substantial earning power behind and have to fund maybe 30 years or more of expenses from your savings. People seem to cross into this new stage with the same investment philosophy/allocation that they had. But the game has changed - it actually changed as you approached retirement since you didn't have decades to make up a major hit to your portfolio. The focus should be on how do I preserve the win not how do I run up the score.

If you have enough that you are confident that you could fund your retirement then I feel the wise thing to do is to invest to provide the safest means to assure that you don't put your retirement at risk. The goal should not be what strategy will likely maximize my portfolio - we are no longer in the accumulation stage. If you have enough I like Bernstein's put your retirement funding at little or no risk and invest the "excess" however you want. And I do think you need some excess to make this work. To have more than enough and go for a 90/10 allocation and then hit a long market downturn and be left with less than you need - would be tragic. So go for two portfolios (even if only mentally) one that is pretty safe to fund your retirement and the other to take whatever risk suits your fancy. No more exclusive focus on overall allocation to determine risk. It is more how many years can I fund with my safe portfolio and how much excess do I have.

There are many good arguments against this approach most are based on historical returns. History is likely to repeat but the future is not bound to follow history.

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