How far from retirement should you start adjusting asset allocation?

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jjunk
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How far from retirement should you start adjusting asset allocation?

Post by jjunk »

I'm 45, my DW is 44. We have no kids and are not home owners. Our current net worth is in the low 2M range. We would like to retire early, within the next 1-5yrs and I've been considering a change to our asset allocation from 70/30 to 60/40. We do not have any family to leave a legacy to, so its fine if we 100% deplete our portfolio, we have charity contingencies for any remaining money after we pass. Given I am out of tax advantaged space to allocate new fixed income, I'm trying to figure out the best way to accomplish this move without negatively impacting our overall current situation. I make a solid living in a HCOL city, but we're also pretty frugal and can put a decent amount of money away per year with savings.

Current retirement assets

Taxable
>1% cash
69% IVV - iShares S&P 500 Index ETF
6% FXNAX - Fidelity US Bond Index

His 401k
18% FXNAX - Fidelity US Bond Index
1% Vanguard S&P 500 Index
Company match? Yes, 50%

His Roth IRA
3% FXNAX - Fidelity US Bond Index

Her Roth IRA
3% FXNAX - Fidelity US Bond Index

Contributions

New annual Contributions
$19K his 401k (+$8K employer matching contributions)
$6K his IRA/Roth IRA
$6K her IRA/Roth IRA
$80K++ taxable (for retirement, not short term goals)


Question:
1. We're currently sitting at 70/30 allocation. If we plan to retire early, within the next 1-5yrs, and want to have a 60/40 allocation, what is the best way to move towards that allocation? Through new purchases in addition to selling appreciated assets? Through new purchases alone?
2. Is there any other thing I need to consider w.r.t. current holdings? Possibly muni's?
ExitStageLeft
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Re: How far from retirement should you start adjusting asset allocation?

Post by ExitStageLeft »

The option of buying bonds in taxable would allow you to shift your allocation without having to liquidate anything. If you share your income tax brackets and what state you live in you will probably get very helpful advice on which bonds in taxable would be the best fit for you.
lakpr
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Re: How far from retirement should you start adjusting asset allocation?

Post by lakpr »

I see Roth space being wasted for bonds, should be 100% stocks. Better than holding stock funds in taxable since no cap gains taxes or qualified / non qualified dividends to worry about. Shift some of the taxable money to bond like instruments, not necessarily bonds themselves. CDs, money market, etc.

Of course all future 401k contributions go into bond index fund.
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jjunk
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Re: How far from retirement should you start adjusting asset allocation?

Post by jjunk »

ExitStageLeft wrote: Mon Apr 08, 2019 12:55 pm The option of buying bonds in taxable would allow you to shift your allocation without having to liquidate anything. If you share your income tax brackets and what state you live in you will probably get very helpful advice on which bonds in taxable would be the best fit for you.
Thanks. I'm in WA state and most recently was in the 24% marginal bracket this year.
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jjunk
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Re: How far from retirement should you start adjusting asset allocation?

Post by jjunk »

lakpr wrote: Mon Apr 08, 2019 1:00 pm I see Roth space being wasted for bonds, should be 100% stocks. Better than holding stock funds in taxable since no cap gains taxes or qualified / non qualified dividends to worry about. Shift some of the taxable money to bond like instruments, not necessarily bonds themselves. CDs, money market, etc.

Of course all future 401k contributions go into bond index fund.
I was under the impression that having qualified dividends from my S&P holdings was better, in taxable, than holding nominal bond dividend payments? Both are paying 2-3% right now but at least the stock dividends are getting special taxation. Am I missing something here?
lakpr
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Re: How far from retirement should you start adjusting asset allocation?

Post by lakpr »

You are correct if course, but what happens when it is time to sell some stocks for expenses? In taxable account you get hit with 15% capital gains tax. In Roth, zero tax.

Of course the corollary is that if your stocks tank, you would have been better off in taxable than Roth (the government shares some of the losses with you, and carry $3k of losses per year indefinitely until exhausted)

But in balance, having all stocks in Roth is better
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vineviz
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Re: How far from retirement should you start adjusting asset allocation?

Post by vineviz »

jjunk wrote: Mon Apr 08, 2019 11:53 am I'm 45, my DW is 44. We have no kids and are not home owners. Our current net worth is in the low 2M range. We would like to retire early, within the next 1-5yrs and I've been considering a change to our asset allocation from 70/30 to 60/40.
So, start with the knowledge that the difference between a 70/30 portfolio and a 60/40 portfolio is the difference between a drop of 28% in your portfolio and a drop of 24%*. Is that difference going to have a material impact on your retirement?

If not, then you are probably overthinking your asset allocation.

If a 28% drop would be catastrophic to your plans but a 24% drop would not, make the allocation change ASAP.

If even a 24% drop would be catastrophic to your plans, keep working and saving until it won't be.

* These are the averages of the ten worst drawdowns since 1930 for each asset allocation.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
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jjunk
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Re: How far from retirement should you start adjusting asset allocation?

Post by jjunk »

vineviz wrote: Mon Apr 08, 2019 1:36 pm
jjunk wrote: Mon Apr 08, 2019 11:53 am I'm 45, my DW is 44. We have no kids and are not home owners. Our current net worth is in the low 2M range. We would like to retire early, within the next 1-5yrs and I've been considering a change to our asset allocation from 70/30 to 60/40.
So, start with the knowledge that the difference between a 70/30 portfolio and a 60/40 portfolio is the difference between a drop of 28% in your portfolio and a drop of 24%*. Is that difference going to have a material impact on your retirement?

If not, then you are probably overthinking your asset allocation.

If a 28% drop would be catastrophic to your plans but a 24% drop would not, make the allocation change ASAP.

If even a 24% drop would be catastrophic to your plans, keep working and saving until it won't be.

* These are the averages of the ten worst drawdowns since 1930 for each asset allocation.
Thank you for bringing this up as it is something I've been thinking about a lot recently. Neither 24% nor 28% would kill my plans in retirement. I'd merely reduce spending during down years to compensate. Our current budget has ~25% of easily removed spending while still having the basics + a few small lifestyle things we'd want to have. It's entirely possible I'm overthinking it.
mariezzz
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Re: How far from retirement should you start adjusting asset allocation?

Post by mariezzz »

jjunk wrote: Mon Apr 08, 2019 1:44 pm
vineviz wrote: Mon Apr 08, 2019 1:36 pm
jjunk wrote: Mon Apr 08, 2019 11:53 am I'm 45, my DW is 44. We have no kids and are not home owners. Our current net worth is in the low 2M range. We would like to retire early, within the next 1-5yrs and I've been considering a change to our asset allocation from 70/30 to 60/40.
So, start with the knowledge that the difference between a 70/30 portfolio and a 60/40 portfolio is the difference between a drop of 28% in your portfolio and a drop of 24%*. Is that difference going to have a material impact on your retirement?

If not, then you are probably overthinking your asset allocation.

If a 28% drop would be catastrophic to your plans but a 24% drop would not, make the allocation change ASAP.

If even a 24% drop would be catastrophic to your plans, keep working and saving until it won't be.

* These are the averages of the ten worst drawdowns since 1930 for each asset allocation.
Thank you for bringing this up as it is something I've been thinking about a lot recently. Neither 24% nor 28% would kill my plans in retirement. I'd merely reduce spending during down years to compensate. Our current budget has ~25% of easily removed spending while still having the basics + a few small lifestyle things we'd want to have. It's entirely possible I'm overthinking it.
My thoughts were the same as vineviz's. You're already within margin of error, high end for the range you want to be in (60/40) ... you might think of any active changes more as rebalancing. Your net worth is such that the difference between where you're at and where you want to be is peanuts. You could just direct new investments into non-equity space. Or, do some active rebalancing now to give yourself a bit more flexibility as to where to direct future money.
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4nursebee
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Re: How far from retirement should you start adjusting asset allocation?

Post by 4nursebee »

It depends.

Good work on the $.

What are your expenses? How will you fund health insurance?

I recall longer retirements require larger stock allocations to capture growth.

One of us is less than a year from retiring, the other could quit though emotional comfort and insurance will keep one of us working full and then maybe part time. NO CHANGE IN ALLOCATION for us. Market funds are 100% low cost index. No bonds. Have RE, pension, SS, and an annuity. I consider those to be the safety part that bonds might offer. We are building multi year cash emergency fund.
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CoastalWinds
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Re: How far from retirement should you start adjusting asset allocation?

Post by CoastalWinds »

A good rule of thumb is to have 10x your estimated annual expenses plus taxes (in retirement, not working years) held in fixed income (bonds plus cash). This is consistent with having 25x overall and a 60/40 ratio.
GAAP
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Re: How far from retirement should you start adjusting asset allocation?

Post by GAAP »

Since you're in Washington, in the 24% bracket, and with a net worth greater than $2M, it is highly likely that you will be subject to Washington Estate taxes. Roth conversions can be one way to reduce that impact in the future -- no point in paying estate tax on monies owed to the IRS...

AA changes and asset location changes can be combined with the Roth conversion process.

My target allocation is 70/30, with +/- 10% rebalancing bands. For me, the 60/40 AA is just one of the extremes that I allow. If I wanted to make 60/40 my final AA in 5 years, I would just adjust my target by 2% each year -- but only rebalance if outside the new range. I use +/-5% for tolerance bands, so even in that situation, the total rebalancing amount could be fairly small.
“Adapt what is useful, reject what is useless, and add what is specifically your own.” ― Bruce Lee
MattE
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Re: How far from retirement should you start adjusting asset allocation?

Post by MattE »

I think the "early retirement" part here might be being overlooked. You're basically in the exact same situation my wife and I project being in ~10 years and I've recently been thinking and reading up quite a bit on adjustments that need to be made from conventional retirement rules of thumb to support the very long (50+ year) time horizons someone trying to retiring in their early 40s has as a reality. One of the more interesting studies\arguments I've seen is that for those type of time spans, you actually incur the lowest sequence of returns risk by having a reverse glide path once you hit retirement -- that is, follow the normal rules of thumb (e.g., age or age - x where x is typically between 10 and 20 in bonds) to draw down your equities share of your asset allocation in the run up to retirement, but at retirement, try to primarily withdraw from bonds or otherwise rebalance your accounts so that your equities share actually begins increasing again at a steady rate.

https://earlyretirementnow.com/2017/09/ ... lidepaths/
https://earlyretirementnow.com/2017/09/ ... more-32248
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jjunk
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Re: How far from retirement should you start adjusting asset allocation?

Post by jjunk »

4nursebee wrote: Mon Apr 08, 2019 2:45 pm It depends.

Good work on the $.

What are your expenses? How will you fund health insurance?

I recall longer retirements require larger stock allocations to capture growth.

One of us is less than a year from retiring, the other could quit though emotional comfort and insurance will keep one of us working full and then maybe part time. NO CHANGE IN ALLOCATION for us. Market funds are 100% low cost index. No bonds. Have RE, pension, SS, and an annuity. I consider those to be the safety part that bonds might offer. We are building multi year cash emergency fund.
Expenses wise, it will depend on where we retire but right now we're spending ~60k/yr. I estimate that we'll need closer to 80k/yr in retirement to stay in our current HCOL area after budgeting for healthcare. If we were to move into a LCOL area, we'd like be closer to 50-60k/yr in retirement. We plan on using the ACA, so long as its a viable option for healthcare.
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jjunk
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Re: How far from retirement should you start adjusting asset allocation?

Post by jjunk »

MattE wrote: Mon Apr 08, 2019 4:02 pm I think the "early retirement" part here might be being overlooked. You're basically in the exact same situation my wife and I project being in ~10 years and I've recently been thinking and reading up quite a bit on adjustments that need to be made from conventional retirement rules of thumb to support the very long (50+ year) time horizons someone trying to retiring in their early 40s has as a reality. One of the more interesting studies\arguments I've seen is that for those type of time spans, you actually incur the lowest sequence of returns risk by having a reverse glide path once you hit retirement -- that is, follow the normal rules of thumb (e.g., age or age - x where x is typically between 10 and 20 in bonds) to draw down your equities share of your asset allocation in the run up to retirement, but at retirement, try to primarily withdraw from bonds or otherwise rebalance your accounts so that your equities share actually begins increasing again at a steady rate.

https://earlyretirementnow.com/2017/09/ ... lidepaths/
https://earlyretirementnow.com/2017/09/ ... more-32248
Thanks for this. I've read these posts several times in the past and its one of the reasons I've been thinking about a slightly more conservative AA to begin retirement. My guess is that if I retired in 5yrs, at 50, I'd likely have less than 30yrs left on this rock just based on family history. My wife may live a little longer. Overall in my planning, I've been using a 3.5%SWR for planning purposes and to get our "number" given that historically its performed pretty well for 30-40yr periods.
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