Capital Preservation after an 8 year bull market

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BlueEyedDevil
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Capital Preservation after an 8 year bull market

Post by BlueEyedDevil » Sat Jan 13, 2018 10:59 am

For the first time in my investing life I feel a new emotion - fear. I'm a 35 year old with $500,000 in 100% stock assets and want to know the smartest way to take some of my wins off the table. My personal financial goals for the next 5 years are to put a $100,000 down payment on a house and make a separate life-changing $100k capital purchase. I cannot make these purchases today because I will move to a new city in the next 18-36 months.

I was broke and humbled with $0 to my name during the 2009 financial crisis and through hard work, perseverence, and a lot of investment research I grew my net worth to what it is today. I invested in a 100% stock portfolio over-weighted to FAANG stocks and small caps. Now that I've made my first half-million I want to take some of it "off the table" so a stock market crash doesn't kill me.

But I don't know anything about bonds or capital preservation, I spent all my energy accumulating capital I don't know what to do now that I have it. Help me learn to reallocate my winnings boggleheads!

Tax situation:
Single
38% marginal tax bracket.

Goals for reallocation:
Save $100k for a house
Save $100k for a capital expense
$300k invested for retirement with high risk tolerance.

Current Portfolio (100% stock):
401k - $225k
Roth IRA - $75k
Taxable - $200k

Question:
What's the smartest way to reduce risk in my portfolio? I want the security to know no matter what happens I can make my $200k in capital purchases sometime in the next 5 years.

I think the default advice is I should sell all my taxable stocks and buy all bonds? But then I'd be paying over 1/3rd of the dividends in taxes on an already small dividend. What if we enter an era of high inflation like 6% or 7%, I'd be losing purchasing power right?

Thanks for your help!

TravelforFun
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Re: Capital Preservation after an 8 year bull market

Post by TravelforFun » Sat Jan 13, 2018 11:11 am

I try to put as much stocks in Roth and taxable as possible because growth in Roth is tax free and growth in taxable could qualify for long term capital gain which is taxed as a low rate. I would put bonds in 401k since growth in 401k will be taxed at your marginal rate when you withdraw. Having said that, since you need $200K fairly soon, I would convert the $200K in taxable to bonds. I would convert it right away to be sure my $200K is safe.

TravelforFun

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Ged
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Re: Capital Preservation after an 8 year bull market

Post by Ged » Sat Jan 13, 2018 11:16 am

BlueEyedDevil wrote:
Sat Jan 13, 2018 10:59 am
My personal financial goals for the next 5 years are to put a $100,000 down payment on a house and make a separate life-changing $100k capital purchase.
Money that you will need in the next 5 years should not be in the equities. Short term bonds, CDs, even Federally Insured savings accounts are what you need.

Longer term you might want to consider a more balanced portfolio such as 70% equities and 30% bonds. This will reduce volatility and make it easier for you to sleep at night.

sambb
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Re: Capital Preservation after an 8 year bull market

Post by sambb » Sat Jan 13, 2018 11:18 am

you should just be in a 60/40 portfolio if you want to be conservative. hard to see stocks with large cap gains though. if long term, you'll be fine. Can you live with a 4-6% RETURN a year and stay the course, and accept a 20% downside? If so, 60/40 is for you.

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David Jay
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Re: Capital Preservation after an 8 year bull market

Post by David Jay » Sat Jan 13, 2018 11:37 am

Welcome to the Forum!

Step 1 - put your $200,000 in short term bonds MONDAY.
Step 2 - read up on asset allocation. I like the classic "Need, Ability and Willingness" formulation. You may need to move to something less than 100% stocks, even for long term investments.

Don't overlook the BH Wiki - good stuff!
Prediction is very difficult, especially about the future - Niels Bohr | To get the "risk premium", you really do have to take the risk - nisiprius

pkcrafter
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Re: Capital Preservation after an 8 year bull market

Post by pkcrafter » Sat Jan 13, 2018 11:43 am

Welcome,

Sorry for taking a hard line here, but you have been very lucky.

You have 500k, but not 500k in retirement assets

As mentioned, money needed is 5 years should not be counted in with retirement assets, and should not be in the stock market. You need to correct this now. Money for the house and the other goal should be in short term bonds and or savings/CDs.

In addition, you need an emergency fund so you don't have to pull from long term investments for something unexpected.

If you want your retirement portfolio reviewed, you will need to post it with details. Overweighting small? How much. FAANG, How much. Any funds or ETFs? Under your current situation, which sounds very aggressive, a hard market fall could leave you with less than 300k.

You said you have a high risk tolerance, but are feeling fear. Suppose you safely set aside the money for the short term goals, then how would you feel about the long term investments?



Paul
When times are good, investors tend to forget about risk and focus on opportunity. When times are bad, investors tend to forget about opportunity and focus on risk.

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David Jay
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Re: Capital Preservation after an 8 year bull market

Post by David Jay » Sat Jan 13, 2018 11:48 am

BTW - did you note that I said nothing about market timing due to an 8 year bull market?

1. Money you need in the next 2 years doesn't belong in equities.
2. Always invest according to your (written!) asset allocation plan. At the end of a bull market: re-read your written asset allocation plan. After a market crash: re-read your written asset allocation plan. When you are tempted to try something new and fancy: re-read your written asset allocation plan.

The author William Bernstein writes in his booklet,"Deep Risk": "Mistiming the market is probably the single most frequent and severe form of permanent capital loss."
Prediction is very difficult, especially about the future - Niels Bohr | To get the "risk premium", you really do have to take the risk - nisiprius

itstoomuch
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Re: Capital Preservation after an 8 year bull market

Post by itstoomuch » Sat Jan 13, 2018 11:59 am

Depends.
I like cash or low term CD for an immediate decision.
From cash, you can later decide to move to other "investments" or another "parking" other than cash. Holding cash you will know exactly what your loss opportunity cost at any given time and expect future. Holding anything else other than cash you will be taking greater future risk.

disclaimer: Retired. Have a lot in cash from a recent property sale and family debate on next move. Also have deferred income annuities, and some FANG like stock in Discretionary.

But our 32yo Only, is 100% in invested in Indexes and discretionary tilt Indexes & FANG like stocks
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo

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rob
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Re: Capital Preservation after an 8 year bull market

Post by rob » Sat Jan 13, 2018 12:09 pm

TravelforFun wrote:
Sat Jan 13, 2018 11:11 am
I try to put as much stocks in Roth and taxable as possible because growth in Roth is tax free and growth in taxable could qualify for long term capital gain which is taxed as a low rate.
I see this stock in roth due to tax-free a lot here.... The flip side is there is no tax sharing of losses :-) Given unchanged tax rates, it's a wash between roth and pre-tax.
| Rob | Its a dangerous business going out your front door. - J.R.R.Tolkien

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whodidntante
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Re: Capital Preservation after an 8 year bull market

Post by whodidntante » Sat Jan 13, 2018 12:13 pm

What I do is keep my taxable accounts 100% stocks beyond one month of rolling expenses and put fixed income in my pre-tax 401k, split between Vanguard Total Bond Market and a stable value fund. However, this only works if you have sufficient money in both pre-tax 401k and taxable to accomplish the allocation, while still being able to survive realistic downturns in the market. I don't know the risk of FANG+small caps, but I'm guessing it's riskier than a broad market index, and even that can realistically be cut in half. So I would say that you shouldn't count on being able to spend 200k in a few years if you continue as you are. I don't mind gambling but you might.

Some strategies:
1. You could sell what you have and buy a less risky portfolio, eating the tax.
2. You could keep what you have but buy and roll put options for the FANG stocks. It would likely be cheaper to sell a futures contract for the small cap stocks assuming that is an index fund (shorting small caps). You eat the cost and would scale this to as much insurance as you need. These tactics will cost you money but effectively reduce your exposure to the market.
3. You borrow the money you need for those upcoming purchases, or spend much less on those purchases, or defer the purchases until you have the assets to support it.

Personally I would partly implement option #1 by selling the FANG stocks, then cover the rest with #3. I'm not a big fan of fixed income in taxable including munis.

TravelforFun
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Re: Capital Preservation after an 8 year bull market

Post by TravelforFun » Sat Jan 13, 2018 1:05 pm

rob wrote:
Sat Jan 13, 2018 12:09 pm
TravelforFun wrote:
Sat Jan 13, 2018 11:11 am
I try to put as much stocks in Roth and taxable as possible because growth in Roth is tax free and growth in taxable could qualify for long term capital gain which is taxed as a low rate.
I see this stock in roth due to tax-free a lot here.... The flip side is there is no tax sharing of losses :-) Given unchanged tax rates, it's a wash between roth and pre-tax.
Money put in Roth should be left in there for a long time and hence, possibility of loss due to market fluctuations is low.

TravelforFun

itstoomuch
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Re: Capital Preservation after an 8 year bull market

Post by itstoomuch » Sat Jan 13, 2018 1:25 pm

OP wrote:Question:
What's the smartest way to reduce risk in my portfolio? I want the security to know no matter what happens I can make my $200k in capital purchases sometime in the next 5 years.

I think the default advice is I should sell all my taxable stocks and buy all bonds? But then I'd be paying over 1/3rd of the dividends in taxes on an already small dividend. What if we enter an era of high inflation like 6% or 7%, I'd be losing purchasing power right? Correct. Investing implies risk. There are no simple answers. Never has. Never will. A compromise is the best one can hope.
more JMO, handle with care.
The smartest way is unknown until after it is known. The dumbest way is also determined the same way.

I personally don't like bonds. It's an other risk factor that you have to watch. Being in cash or invested in the FANG you would only need to watch the opportunity cost between cash and holding FANG.

Trading Options is a strategy, if you care to do more analysis.
In my Discretionary trading account, I use more frequent trading. AKA momentum/swing/timing. It is a compromise between holding cash and holding the stock.
Again, It's all Discretionary to me. I can afford to lose the values. But for you the simplest way is just go to cash and take more time to ThinkAboutIt. YMMV
Rev012718; 4 Incm stream buckets: SS+pension; dfr'd GLWB VA & FI anntys, by time & $$ laddered; Discretionary; Rentals. LTCi. Own, not asset. Tax TBT%. Early SS. FundRatio (FR) >1.1 67/70yo

MrJones
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Re: Capital Preservation after an 8 year bull market

Post by MrJones » Sat Jan 13, 2018 2:16 pm

BlueEyedDevil wrote:
Sat Jan 13, 2018 10:59 am
For the first time in my investing life I feel a new emotion - fear. I'm a 35 year old with $500,000 in 100% stock assets and want to know the smartest way to take some of my wins off the table.
Are you perhaps experiencing fear and desire for more together? If it's just fear, the simplest thing to do is to go all cash. What stops you from doing that?

anonyvestor
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Re: Capital Preservation after an 8 year bull market

Post by anonyvestor » Sat Jan 13, 2018 2:52 pm

How much more would you be able to save in taxable for the next 18-36 months? I would plan on using that instead as part of your downpayment, to minimize capital gains of selling equities. Then sell enough equities in your taxable accounts to invest in short term bonds to pay for the difference, and the expected capital gains taxes.

Meanwhile your 401k may need reallocation/diversification. If all of your equities are US, you may wish to diversify into international.

And if you would loose sleep over 100% equities in your retirement funds in 18-36 months, I might work towards a more suitable allocation over the next 18-36 months.

BlueEyedDevil
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Re: Capital Preservation after an 8 year bull market

Post by BlueEyedDevil » Sat Jan 13, 2018 3:43 pm

Would a smart solution be to buy $100,000 in bonds in my investment accounts to reallocate to a 70/30 portfolio. In my taxable account I can spend 1.5%-2% of my asset value buying rolling put options that should limit my downside risk to 10-15% loss. This might be a better risk mitigation strategy than holding taxable bonds in a high tax, low rate, low inflation environment.

Does anyone have the math to compare 10% protection on the sp500 via puts vs. owning taxable bonds?

Thank you so much for so many great ideas! This thread has opened my eyes beyond the boilerplate discussion you get on Bloomberg or CNBC.

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obafgkm
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Re: Capital Preservation after an 8 year bull market

Post by obafgkm » Sat Jan 13, 2018 3:51 pm

David Jay wrote:
Sat Jan 13, 2018 11:37 am
Step 1 - put your $200,000 in short term bonds MONDAY.
Do it on Tuesday. Monday's a holiday - Martin Luther King, Jr. Day.

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David Jay
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Re: Capital Preservation after an 8 year bull market

Post by David Jay » Sat Jan 13, 2018 3:58 pm

obafgkm wrote:
Sat Jan 13, 2018 3:51 pm
David Jay wrote:
Sat Jan 13, 2018 11:37 am
Step 1 - put your $200,000 in short term bonds MONDAY.
Do it on Tuesday. Monday's a holiday - Martin Luther King, Jr. Day.
Duh - I share MLK's birthday...
Prediction is very difficult, especially about the future - Niels Bohr | To get the "risk premium", you really do have to take the risk - nisiprius

Lafder
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Re: Capital Preservation after an 8 year bull market

Post by Lafder » Sat Jan 13, 2018 4:00 pm

I would put your 100k house deposit into cash, depending on the time line of needing it. Same with the 100k for "capital improvements"

With your investments I would have an AA of a minimum of 20% bonds. However, given your age is 35, consider up to 35 % in bonds in your investments.

Really think about it and make an investment plan such as age in bonds or age - x in bonds and stick to it. They rebalance back to it WHEN the next big market crash happens.

:)
lafder

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