OK to stay in cash if you have 40-50x annual expenses?

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Shallowpockets
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OK to stay in cash if you have 40-50x annual expenses?

Post by Shallowpockets »

If you have a cash position of 40-50x your annual expenses past >5 years that are documented so this is no guessing estimating game, is that OK?
Investor is retired, 62. Not taking SS or a small company pension yet.
What say the BHs?
Lou354
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Lou354 »

Yeah, I guess it's okay. But I'd still put 30% in a low cost, diversified stock fund. That way you should keep up with inflation without taking much risk.

By the way, what do you mean by "cash position"?
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by joebh »

It's okay by me.

But with those assets, at that age, and with SS and pension coming, you might want to consider what you intend to leave for a legacy, and invest that portion of your assets more aggressively.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by LarryAllen »

It's "ok" but certainly not what I would do. A broad base mix of safe assets including both ETFs and some real estate. Not leveraged real estate but 100% cash purchased. Keep risk to a minimum. Things might change and expenses might go up in the future.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by triceratop »

Why stay in cash when CDs have no risk relative to cash, and often have more favorable rates than treasuries? On some level, when one has won the game it doesn't matter what they do, so it is "OK". Don't confuse that with an optimal or even good strategy.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by ruralavalon »

Shallowpockets wrote:If you have a cash position of 40-50x your annual expenses past >5 years that are documented so this is no guessing estimating game, is that OK?
Investor is retired, 62. Not taking SS or a small company pension yet.
What say the BHs?
Are you 100% cash? If so that's a bad idea, in my opinion. You are getting a negative real return after inflation. 100% anything is a bad idea in my opinion. A better idea would be some cash, plus a diversified mix of CDs, bond funds and stock funds.

25/75 stocks/bonds is likely to be: safer; less volatile; and give a positive real return.
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Phineas J. Whoopee
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Phineas J. Whoopee »

Shallowpockets wrote:If you have a cash position of 40-50x your annual expenses past >5 years that are documented so this is no guessing estimating game, is that OK?
Investor is retired, 62. Not taking SS or a small company pension yet.
What say the BHs?
It's taking inflation risk. If that's what the retired 62-year-old investor wants to do, well, then OK I guess. Inflation doesn't have to spike to cause problems. Even low inflation compounds year after year. Some allocation to stocks, or a lot to intermediate-term bonds or TIPS, might be a good idea if the investor hasn't specifically chosen, for reasons that seem good to h/er/im self, to ignore inflation risk.

Is the small company pension inflation adjusted? Social Security is, which might mitigate the situation, depending on how much the investor plans to rely on h/er/is portfolio over the long term.

Is the investor certain future expenses won't be more than past, like for example, in the event of a health crisis?

Cash may not be volatile, but it isn't risk free. There are no financial, or life, scenarios that are free of risks.

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Last edited by Phineas J. Whoopee on Sun Jul 17, 2016 8:53 pm, edited 1 time in total.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Grt2bOutdoors »

When you have won the game , it is okay to stop playing.
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William4u
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by William4u »

I'm all for lowering risk if you don't need to take risk to raise money for retirement. However, as others have mentioned, 100% cash is a higher risk portfolio than a 25% stock, 50% bonds, and 25% CD portfolio. If I wanted to lower my risk as much as possible and I have 50x the annual money I spend, I would still use the 25/50/25 portfolio to lower my overall risks.

And we should disambiguate what you mean by "50x what I need." I suspect you do NOT mean literally 50x the annual average of what you will need for the next 20-30 years or so. If you meant that literally, you would also need to factor in inflation. So if you lived on $100k this year, it would mean you would need about $200k in 25 years or so to have the same buying power. In 40 years you would need (roughly) $300k due to inflation.

If you are including those inflationary $200k and $300k numbers in your "50x calculation" you might be ok, but if you are not (and I strongly suspect you are not) then 50x (of what you send this year) is not sufficient for 40 years (or even 30 years). If you simply multiply what you spend now by 50, you are not actually calculating "50 times what I will need annually."

A 1950 income of $10k is equivalent to an income of $100k today (due to inflation). Imagine a person in 1950 knows he is going to be paid $10,000 to be frozen and then thawed out in 2016 by scientists. He might think "I'll put the $10,000 in a box and then live like a king in 2016 when I get thawed out." He would be very upset when he gets thawed out in 2016 to find that the $10,000 from his box will put him below the poverty line. If he had invested that $10,000 in the S&P500 in 1950 before he was frozen, he would be a multi-millionaire today.

A 62 yo could easily live 40 years, and having 50x (non-inflation adjusted) in 100% cash would probably mean it all gets wiped out by inflation well before 40 years is up (assuming one lives on the inflation-adjusted 1x annually).

A 25/50/25 stock/bond/cd portfolio would be far less risky overall in the long run IMHO. Inflation risk is substantial over 3 or 4 decades, and 100% cash is obviously very susceptible to inflation risk. Stock/bond risk can balance out inflation risk. There is no such thing as a no-risk portfolio.
Last edited by William4u on Sun Jul 17, 2016 9:15 pm, edited 1 time in total.
student
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by student »

Pardon my ignorance, why can't one invest the entire amount in TIPS or TIPS fund if the only objective is not to lose money to inflation.
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Phineas J. Whoopee
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Phineas J. Whoopee »

student wrote:Pardon my ignorance, why can't one invest the entire amount in TIPS or TIPS fund if the only objective is not to lose money to inflation.
One could, but based on OP it's not at all clear the objective is to avoid losing purchasing power to inflation.
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William4u
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by William4u »

student wrote:Pardon my ignorance, why can't one invest the entire amount in TIPS or TIPS fund if the only objective is not to lose money to inflation.
In theory, yes. In practice eliminating inflation risk is impossible. TIPS could go a long way to eliminate that risk. My worry with going 100% TIPS is that it might increase risk due to lack of diversification. Putting all one's eggs in the TIPs basket for 40 years might be dangerous. What it TIPS do not function efficiently? What if the algorithm for calculating TIPs rates fails to match what real people actually need over such a long time frame? Diversification can lower overall risk here I think. So adding CDs, bonds, TIPS, and stocks might be appropriate for lowing risk over 40 years.
Last edited by William4u on Sun Jul 17, 2016 9:25 pm, edited 1 time in total.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by William4u »

student wrote:Pardon my ignorance, why can't one invest the entire amount in TIPS or TIPS fund if the only objective is not to lose money to inflation.
But it seems that there is an objective to be able to live on "1x income" annually, and I suspect the OP would really want to live on "1x income adjusted for inflation" annually.

So inflation risk is implicit in his question.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by AlohaJoe »

To show you more concretely what inflation risk looks like:

If you had retired in 1960 with 50 years of annual expenses saved and kept it all in cash then 10 years later you only had 29 years of expenses left. In other words, you spent 10 years of savings and "lost" 11 years of savings to inflation.

And that was during the 1960s which was hardly a "high-inflation environment" (inflation average 2.59%).

If we repeat the thought experiment during the peak of inflation (1973 to 1982) then after 10 years you only had 13 years of expenses left. You spent 10 years' worth and "lost" 27 years' worth.

If you keep things in cash then 50 years of expenses rarely lasts more than 25 years.
Last edited by AlohaJoe on Sun Jul 17, 2016 9:25 pm, edited 1 time in total.
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Phineas J. Whoopee
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Phineas J. Whoopee »

William4u wrote:...
In theory, yes. In practice eliminating inflation risk is impossible. TIPS could go a long way to eliminate that risk.
Will you please expound on the difference between theory and practice in this instance? Thanks in advance.
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student
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by student »

William4u wrote:
student wrote:Pardon my ignorance, why can't one invest the entire amount in TIPS or TIPS fund if the only objective is not to lose money to inflation.
But it seems that there is an objective to be able to live on "1x income" annually, and I suspect the OP would really want to live on "1x income adjusted for inflation" annually.

So inflation risk is implicit in his question.
I understand that. My question is why doesn't the following work. Divide the money equally into 50 buckets and invest 49 of them in TIPS or TIPS fund. So this year you use the money in bucket 1 say $50,000. Next year bucket 2 will be worth $50,000(1+i) where i is the inflation rate. The following year
bucket 3 will be worth $50,000(1+i)^2.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by William4u »

Phineas J. Whoopee wrote:
William4u wrote:...
In theory, yes. In practice eliminating inflation risk is impossible. TIPS could go a long way to eliminate that risk.
Will you please expound on the difference between theory and practice in this instance? Thanks in advance.
PJW
My worry with going 100% TIPS is that it might increase risk due to lack of diversification. Putting all one's eggs in the TIPs basket for 40 years might be dangerous. What if TIPS do not function efficiently? What if the algorithm for calculating TIPs rates fails to match what real people actually need over such a long time frame? Diversification can lower overall risk here I think. So adding CDs, bonds, TIPS, and stocks might be appropriate for lowing risk over 40 years.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by student »

William4u wrote:
student wrote:Pardon my ignorance, why can't one invest the entire amount in TIPS or TIPS fund if the only objective is not to lose money to inflation.
In theory, yes. In practice eliminating inflation risk is impossible. TIPS could go a long way to eliminate that risk. My worry with going 100% TIPS is that it might increase risk due to lack of diversification. Putting all one's eggs in the TIPs basket for 40 years might be dangerous. What it TIPS do not function efficiently? What if the algorithm for calculating TIPs rates fails to match what real people actually need over such a long time frame? Diversification can lower overall risk here I think. So adding CDs, bonds, TIPS, and stocks might be appropriate for lowing risk over 40 years.
ok. Thanks.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by student »

student wrote:
William4u wrote:
student wrote:Pardon my ignorance, why can't one invest the entire amount in TIPS or TIPS fund if the only objective is not to lose money to inflation.
But it seems that there is an objective to be able to live on "1x income" annually, and I suspect the OP would really want to live on "1x income adjusted for inflation" annually.

So inflation risk is implicit in his question.
I understand that. My question is why doesn't the following work. Divide the money equally into 50 buckets and invest 49 of them in TIPS or TIPS fund. So this year you use the money in bucket 1 say $50,000. Next year bucket 2 will be worth $50,000(1+i) where i is the inflation rate. The following year
bucket 3 will be worth $50,000(1+i)^2.
Please ignore my question. You stated in another reply that it works "in theory." This answered my question.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Phineas J. Whoopee »

student wrote:...
I understand that. My question is why doesn't the following work. ....
That's an inflation-adjusted liability matching strategy, which many posters advocate. A practical problem with what you ask is the longest TIPS auctioned are for only 30 years, but I don't imagine that was the essence of your point.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by JonnyDVM »

Shallowpockets wrote:If you have a cash position of 40-50x your annual expenses past >5 years that are documented so this is no guessing estimating game, is that OK?
Investor is retired, 62. Not taking SS or a small company pension yet.
What say the BHs?
Yikes there's a lot wrong with this. 50X annual expenses in cash??? For the love of god loosen the purse strings a little. With cash holdings you're getting crushed by inflation. At least some of that money should be invested. Even a super bond heavy portfolio would be relatively safe and return better than cash.
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student
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by student »

Phineas J. Whoopee wrote:
student wrote:...
I understand that. My question is why doesn't the following work. ....
That's an inflation-adjusted liability matching strategy, which many posters advocate. A practical problem with what you ask is the longest TIPS auctioned are for only 30 years, but I don't imagine that was the essence of your point.
PJW
Thanks for the info.
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Will do good
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Will do good »

If I have 50X expenses without SS or pension, I would be 50% stock and 50% bonds.
Than when I collect SS at 70 I would go 75% stock, so I would grow the money for the next generation.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Watty »

Shallowpockets wrote:If you have a cash position of 40-50x your annual expenses past >5 years that are documented so this is no guessing estimating game, is that OK?
Investor is retired, 62. Not taking SS or a small company pension yet.
What say the BHs?
That is not a good idea on so many levels that it is hard to know where to start.

Part to the problem is that you would at least need to expend your holding to very safe things like insured CDs, TIPS, and government bonds.

It is generally suggested that you never go below 20% in stocks just for diversification.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by dltnfs »

Phineas J. Whoopee wrote:
William4u wrote:...
In theory, yes. In practice eliminating inflation risk is impossible. TIPS could go a long way to eliminate that risk.
Will you please expound on the difference between theory and practice in this instance? Thanks in advance.
William4u already noted that I care only about my personal inflation rate, which may differ significantly from the rate used for TIPS due to my personal preferences, regional housing cost differences, medical costs, etc. To the extent that the CPI is supposed to be a conversion factor between USD and happiness (i.e., that an expenditure of the same number of real dollars should let me live "about as well" in any year), it must always break down at some practical level, as will anything that relates to unpredictable human desire. (Unless you're the guy who does the hedonic adjustments, I guess?)

I'm not sure what he meant by "function efficiently", maybe a reference to the tax drag on TIPS held in taxable. In any case, the OP's plan is a really bad idea that would probably be fine if he/she doesn't live too long and inflation is low.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Pharmacist »

Is it okay? Sure.

Is it optimal? Not even close.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Phineas J. Whoopee »

dltnfs wrote:...
William4u already noted that I care only about my personal inflation rate, which may differ significantly from the rate used for TIPS due to my personal preferences, regional housing cost differences, medical costs, etc. To the extent that the CPI is supposed to be a conversion factor between USD and happiness
It ain't.
dltnfs wrote:(i.e., that an expenditure of the same number of real dollars should let me live "about as well" in any year),
It don't.
dltnfs wrote:it must always break down at some practical level, as will anything that relates to unpredictable human desire. (Unless you're the guy who does the hedonic adjustments, I guess?)
...
Sounds like a conspiracy theory to me.

Now, dltnfs, isn't CPI-U perfectly well capable of being criticized for what it is, based on its actual weaknesses, without making up things it isn't and never was meant to be?

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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by whodidntante »

Sure! But the investor might want to find out which flavor of Alpo he or she finds most agreeable, just in case there is significant inflation.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by dltnfs »

Phineas J. Whoopee wrote:Now, dltnfs, isn't CPI-U perfectly well capable of being criticized for what it is, based on its actual weaknesses, without making up things it isn't and never was meant to be?
So what do you think I made up here? It's pretty mainstream economics that inflation models something that relates closely to human happiness and desire, no? How can they update the basket of goods every year, except with regard to that?

Why do you think they chose the word "hedonic"? To be clear, I'm not alleging that the BLS is somehow insincere; I'm simply pointing out the inherent subjectivity of their work.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Phineas J. Whoopee »

Deleted - I misunderstood the post I was responding to.
PJW
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by dltnfs »

stray post, mods please delete
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Phineas J. Whoopee
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Phineas J. Whoopee »

dltnfs wrote:...
So what do you think I made up here? It's pretty mainstream economics that inflation models something that relates closely to human happiness and desire, no?
No.
dltnfs wrote:How can they update the basket of goods every year, except with regard to that?
They don't update it every year, but it is based on a survey of household consumption when they do update it. Who do you think they is? Why do you claim the they do things they don't? They publish it on their website, as I linked.
dltnfs wrote:Why do you think they chose the word "hedonic"? To be clear, I'm not alleging that the BLS is somehow insincere; I'm simply pointing out the inherent subjectivity of their work.
Of course there's a subjective aspect. Who claims there isn't?

Now, you may feel like changing the subject, but it don't fly with me. You claimed, which is to say, you made up, that:
dltnfs wrote:... To the extent that the CPI is supposed to be a conversion factor between USD and happiness
It ain't. You made it up.
dltnfs wrote:(i.e., that an expenditure of the same number of real dollars should let me live "about as well" in any year), ...
It don't. You're making it up as you go along.

Do you want to have a serious conversation, or do you want to accuse me of being part of a non-existent conspiracy,
dltnfs wrote:... (Unless you're the guy who does the hedonic adjustments, I guess?)
and pretend you didn't make things up when you just did?

Your call.

PJW
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by finite_difference »

triceratop wrote:Why stay in cash when CDs have no risk relative to cash, and often have more favorable rates than treasuries? On some level, when one has won the game it doesn't matter what they do, so it is "OK". Don't confuse that with an optimal or even good strategy.
++. Build a CD ladder or get a high yield savings account (1%), whichever gives you more interest. With 1% interest, and if inflation is 2%, then you are only losing 1% to inflation, which is quite minimal. Less if you can get a higher return with your CD ladder.

Personally if I was low risk, I would still keep like 20-30% in VTSAX (US Total Stock Market), 20-30% in Vanguard Intermediate Term Tax Exempt (VWIUX) or Vanguard Total Bond (VBTLX), and the rest in a CD ladder or high yield savings.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by dltnfs »

Phineas J. Whoopee wrote:
dltnfs wrote:How can they update the basket of goods every year, except with regard to that?
They don't update it every year, but it is based on a survey of household consumption when they do update it. Who do you think they is? Why do you claim the they do things they don't? They publish it on their website, as I linked.
I guess you're unhappy because I wrote "every year", and the actual timing is more complicated and varies by index, component, etc.? Whatever the schedule, I assume you agree that from time to time, they change the basket of goods, and that's a good, perfectly reasonable, and somewhat subjective thing to do?

They survey household consumption, but that alone is insufficient information to update the weights in a useful objective way. If I stopped buying steak and started buying cheaper hamburger, then my utility has probably decreased. If I stopped buying CD changers and started buying cheaper MP3 players, then my utility has probably increased. The part where they try to distinguish between those two cases is where the subjectivity comes in.

That's not a conspiracy, but it's an effect that anyone who's trying to save in real dollars (like by buying TIPS) should be aware of. Society, and your desired consumption, will change in ways that a fixed basket of goods can't model. The BLS, even if they're perfectly sincere and competent, will adjust for that according to the preferences of the average American, and that's probably not you.
Phineas J. Whoopee wrote:
dltnfs wrote:(i.e., that an expenditure of the same number of real dollars should let me live "about as well" in any year), ...
It don't. You're making it up as you go along.
The CPI isn't exactly a cost-of-living index, but it's the best popular approximation to one. Except to that extent, why would anyone care about it for retirement planning?
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by MossySF »

student wrote:Pardon my ignorance, why can't one invest the entire amount in TIPS or TIPS fund if the only objective is not to lose money to inflation.
Inflation protection costs money. Compare a regular SPIA versus an inflation-adjusted SPIA. Similarly, I'd expect lower real-returns over the long-run for holding TIPs over regular government bonds because you are now taking less risk. This means instead of say 40X-50X, perhaps you need 50X-60X.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by lack_ey »

AlohaJoe wrote:To show you more concretely what inflation risk looks like:

If you had retired in 1960 with 50 years of annual expenses saved and kept it all in cash then 10 years later you only had 29 years of expenses left. In other words, you spent 10 years of savings and "lost" 11 years of savings to inflation.

And that was during the 1960s which was hardly a "high-inflation environment" (inflation average 2.59%).

If we repeat the thought experiment during the peak of inflation (1973 to 1982) then after 10 years you only had 13 years of expenses left. You spent 10 years' worth and "lost" 27 years' worth.

If you keep things in cash then 50 years of expenses rarely lasts more than 25 years.
I didn't check the numbers myself but this sounds really wrong unless you're assuming a zero return on cash. What were the underlying assumptions there?
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by dltnfs »

MossySF wrote:Inflation protection costs money. Compare a regular SPIA versus an inflation-adjusted SPIA. Similarly, I'd expect lower real-returns over the long-run for holding TIPs over regular government bonds because you are now taking less risk. This means instead of say 40X-50X, perhaps you need 50X-60X.
Even if you expect lower returns on TIPS (which isn't obvious to me; insurance usually costs money, but if the government's the one that's selling...), I don't think that necessarily follows. The point of a TIPS ladder is that the value of your portfolio will be more closely correlated to your expenses, so you need less money to meet a given level of expenses to within a given confidence interval (because you are less likely to come up short, and also less likely to have money left over).

And the OP is 62, with SS and a pension. Unless the TIPS are heavily in taxable and you're worried about tax drag during high inflation, even 50x expenses is near-madness.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by AlohaJoe »

lack_ey wrote:
AlohaJoe wrote:If you keep things in cash then 50 years of expenses rarely lasts more than 25 years.
I didn't check the numbers myself but this sounds really wrong unless you're assuming a zero return on cash. What were the underlying assumptions there?
Cash has a zero return. Other things (TIPS, ultra short-term bonds, money market accounts, online savings account, CDs) have better returns. Sometimes people mean one or more of those things when they say cash, sometimes they don't. The OP didn't specify what she meant by "cash" so for illustrative purposes I assumed it meant cash.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by in_reality »

The OP also doesn't know what their cost of living might be down the road if they need assistance as they age.

I'd do at least 30% in stocks for growth and the rest to keep up with inflation.

Sure Grandma's portfolio took a big hit in 2008/9 when she was 95 and starting to need more and more care for Alzheimer's and whatnot. The money had been invested for decades though before that point, stocks recovered on her way to 99, and there's no doubt that putting up with the insecurity that stock volatility has helped her have a well cared for exit in a place she wanted to be.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by dltnfs »

Phineas J. Whoopee wrote:
dltnfs wrote:(i.e., that an expenditure of the same number of real dollars should let me live "about as well" in any year), ...
It don't. You're making it up as you go along.
Oh, and for those who prefer an argument from authority, here are some BLS economists:
[...] Second, the objective is to calculate the amount of money necessary to maintain a constant level of satisfaction, or what one might term a constant standard of living.
Inflation and utility/satisfaction/happiness are inextricably linked. Over long periods, that won't involve a fixed basket of goods. The manner in which that basket is structured and re-weighted is subjective, both in the fundamental and good sense that economists try to model the average consumer's revealed preferences, and in the less good sense that the economists don't all agree on how to do that.

I think I've used phrases that you've seen from inflation conspiracy theorists before, and you are responding to that instead of what I actually wrote. Nothing here is unconventional, or particularly surprising. The only practical consequence is that an inflation-protected instrument will never exactly match the liabilities that would keep its individual purchaser constantly satisfied, which seems pretty obvious, just that inflation protection is good but not perfect.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by MossySF »

dltnfs wrote:Even if you expect lower returns on TIPS (which isn't obvious to me; insurance usually costs money, but if the government's the one that's selling...), I don't think that necessarily follows. The point of a TIPS ladder is that the value of your portfolio will be more closely correlated to your expenses, so you need less money to meet a given level of expenses to within a given confidence interval (because you are less likely to come up short, and also less likely to have money left over).
The government sets the inflation rate but then the bond market decides how much to pay for it.

From July 2015 to June 2016, Vanguard TIPS fund returned 0.67% (includes inflation adjustment) while Vanguard Intermediate Gov Bond Fund returned 1.6%. And during that period, the government calculated inflation also at 0.67%.

So let's say you want enough dividends to pay for $50K in expenses and reinvestment so you never lose ground on inflation and never dip into principal. With the current market yields, you'd need to invest:

* Nominal Bonds ==> $50K / (1.6%-0.67%) = $5.3M
* TIPS ==>$50K / (0.67%-0.67%) = infinite amount

At a 3% annual portfolio drawdown (to last 33 years), the required investment number looks like:

* Nominal Bonds ==> $50K / (1.6%-0.67%+3%) = $1.27M (25X)
* TIPS ==>$50K / (0.67%-0.67%+3%) = $1.67M (33X)

Now if you had bought instead during the height of the financial crisis when TIPS was at 4%+CPI due to lack of liquidity, that makes the numbers look way better for TIPS. But it would have been pretty scary to buy TIPS after a 30% drop in NAV.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Aptenodytes »

I don't think anybody has mentioned SS and pension. If you delay SS to 70 and add the pension, what fraction of expected expenses do you get? Whether the answer is close to 1 or close to 0 makes all the difference.

The answers all implicitly assume, I believe, that the SS and pension amount to a negligible fraction of expected expenses.

If I make that assumption, then I would frame the fundamental issue as one of longevity risk. The longer this investor lives, the greater the likelihood that the portfolio goes to zero. Under inflation scenarios in the 1-3% range, you still get into your 90s. But three decades is a long time to count on inflation remaining low.

Under normal circumstances, a conservative investor who is concerned about longevity risk would be looking hard at annuities. However, I can't help but suspect that these are not normal circumstances. I suspect that the kind of investor who wants to keep all that money in cash is not going to be willing to trust even the most highly rated insurance company with an annuity purchase.

It strikes me that the core issue from an investment perspective might amount to an extreme case of loss aversion. If that's correct, then one of Vanguard's LifeStrategy funds might helpfully mask the volatility. The LifeStrategy Income fund is 80% bonds, 20% stocks, and has very low volatility but still grows enough to offset historic inflation rates. In a given month it could still drop in value, so if the investor is really extreme regarding loss aversion, other tactics might be needed.

If the SS and pension come out to a more substantial fraction of expected expenses, then I'd say let the investor sleep soundly and keep everything in cash. It isn't rational and the portfolio will lose value unnecessarily, but investor needs will still be met.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Stormbringer »

Shallowpockets wrote:If you have a cash position of 40-50x your annual expenses past >5 years that are documented so this is no guessing estimating game, is that OK?
Investor is retired, 62. Not taking SS or a small company pension yet.
What say the BHs?
Just to put some numbers on this, let's assume this person spends $100K a year and has accumulated $5M. If this is a case of extreme risk aversion, you could take about $2M and buy inflation indexed immediate annuities that generate $100K a year. You would reduce the inflation risk as well as the risk of making some terrible financial mistake during old age. On top of that, you could put the remaining $3M in an index fund and generate $60K a year in dividend yield with some long-term growth and inflation protection to boot.
"Compound interest is the most powerful force in the universe." - Albert Einstein
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by dltnfs »

MossySF wrote:The government sets the inflation rate but then the bond market decides how much to pay for it.
The government doesn't really set the inflation rate in any useful sense. I mean, the central banks do inflation targeting, but it doesn't work very well. They do set the supply of TIPS, and that must have some market impact. It would be interesting to see a study of whether that's significant.
MossySF wrote:From July 2015 to June 2016, Vanguard TIPS fund returned 0.67% (includes inflation adjustment) while Vanguard Intermediate Gov Bond Fund returned 1.6%. And during that period, the government calculated inflation also at 0.67%.

So let's say you want enough dividends to pay for $50K in expenses and reinvestment so you never lose ground on inflation and never dip into principal. With the current market yields, you'd need to invest:
[...]
The comparison that you're trying to make here is fundamentally impossible, because TIPS and nominal bonds guarantee different things and you don't know future inflation. How do you distinguish inflation expectations from the difference that you're trying to calculate? (Duration also complicates things. You could remove the duration effect by comparing bond ladders instead of funds, but the first problem still applies.)

You could look at historical TIPS vs. nominal performance, and some folks from the Fed say people think TIPS were a bad deal for a government (i.e., a good deal for investors):
Some studies suggest that the issuance of Treasury Inflation-Protected Securities (TIPS)—inflation-indexed debt—has not been as cost-effective for the Treasury as the issuance of nominal securities
That paper argues that in future, the two should be roughly even. In any case, the thing I said about liability matching stands, and is the whole point of TIPS. If you hold the bond to maturity at the time of your planned future expenditure, then you're just locking in the cost of that expenditure now. You don't care what the nominal price does before maturity. That's easiest to do with an individual TIPS ladder, but also possible if you rebalance to slowly shorten the average duration of your TIPS funds over time.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by JamalJones »

William4u wrote:I'm all for lowering risk if you don't need to take risk to raise money for retirement. However, as others have mentioned, 100% cash is a higher risk portfolio than a 25% stock, 50% bonds, and 25% CD portfolio. If I wanted to lower my risk as much as possible and I have 50x the annual money I spend, I would still use the 25/50/25 portfolio to lower my overall risks.

And we should disambiguate what you mean by "50x what I need." I suspect you do NOT mean literally 50x the annual average of what you will need for the next 20-30 years or so. If you meant that literally, you would also need to factor in inflation. So if you lived on $100k this year, it would mean you would need about $200k in 25 years or so to have the same buying power. In 40 years you would need (roughly) $300k due to inflation.

If you are including those inflationary $200k and $300k numbers in your "50x calculation" you might be ok, but if you are not (and I strongly suspect you are not) then 50x (of what you send this year) is not sufficient for 40 years (or even 30 years). If you simply multiply what you spend now by 50, you are not actually calculating "50 times what I will need annually."

A 1950 income of $10k is equivalent to an income of $100k today (due to inflation). Imagine a person in 1950 knows he is going to be paid $10,000 to be frozen and then thawed out in 2016 by scientists. He might think "I'll put the $10,000 in a box and then live like a king in 2016 when I get thawed out." He would be very upset when he gets thawed out in 2016 to find that the $10,000 from his box will put him below the poverty line. If he had invested that $10,000 in the S&P500 in 1950 before he was frozen, he would be a multi-millionaire today.

A 62 yo could easily live 40 years, and having 50x (non-inflation adjusted) in 100% cash would probably mean it all gets wiped out by inflation well before 40 years is up (assuming one lives on the inflation-adjusted 1x annually).

A 25/50/25 stock/bond/cd portfolio would be far less risky overall in the long run IMHO. Inflation risk is substantial over 3 or 4 decades, and 100% cash is obviously very susceptible to inflation risk. Stock/bond risk can balance out inflation risk. There is no such thing as a no-risk portfolio.
Shallowpockets,

I would heed this advice. Very good points made in this post. Please consider a portfolio such as the one William4u suggests. It is, as he explains, less risky than a 100% cash portfolio.
TSP + Vanguard Roth IRA + Vanguard Taxable: 80% equities / 20% bonds | "I don't shine shoes, I don’t tape ankles, I don't cut checks - straight cash homie!!" --R. Moss
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Tamales »

lack_ey wrote:
AlohaJoe wrote:To show you more concretely what inflation risk looks like:

If you had retired in 1960 with 50 years of annual expenses saved and kept it all in cash then 10 years later you only had 29 years of expenses left. In other words, you spent 10 years of savings and "lost" 11 years of savings to inflation.

And that was during the 1960s which was hardly a "high-inflation environment" (inflation average 2.59%).

If we repeat the thought experiment during the peak of inflation (1973 to 1982) then after 10 years you only had 13 years of expenses left. You spent 10 years' worth and "lost" 27 years' worth.

If you keep things in cash then 50 years of expenses rarely lasts more than 25 years.
I didn't check the numbers myself but this sounds really wrong unless you're assuming a zero return on cash. What were the underlying assumptions there?
Didn't sound quite right to me either, and it's an interesting question so I ran some numbers.

First I assumed $40,000 in living expenses in 2016 and deflated that back to 1960 using the BLS calculator here: http://data.bls.gov/cgi-bin/cpicalc.pl? ... year2=1960
So $4912 annual expenses in 1960, times 50 gives $245,600 portfolio starting value.

Then I used Shiller CPI to adjust each year's expenses for inflation from 1960 as the base year. I assumed zero annual return on the portfolio.

The money runs out in the 27th year (which is 1986 in this case) due to inflation (which wasn't exactly low during this period; the average inflation (CPI) from 1960 to 1986 was 5.1%, and 1974-1982 was pretty high).
After 10 years you had 38 years (relative to the $4912 base) of your 50 year target remaining. So at that point you've only lost 2 years from the expected pace. But it really compounds from there (in a bad way).

I'll have to think about some way to create a graphic from this, since it seems like a useful thing for people to see the crushing impact inflation can have on the best intended retirement plans. Maybe not as bad as the first example AlohaJoe gave, but his bottom line that 50 years of expenses rarely lasts more than 25 is probably pretty close (if you assume that for any 50 year period you should plan for at least a decade of high inflation)
Last edited by Tamales on Tue Jul 19, 2016 9:52 am, edited 1 time in total.
SQRT
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by SQRT »

Grt2bOutdoors wrote:When you have won the game , it is okay to stop playing.
Oft quoted. Might be smart for some, but if you enjoy the game (I do) why quit? Some above might also view this as throwing money away?
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by MathWizard »

Shallowpockets wrote:If you have a cash position of 40-50x your annual expenses past >5 years that are documented so this is no guessing estimating game, is that OK?
Investor is retired, 62. Not taking SS or a small company pension yet.
What say the BHs?
You are old enough to remember the early 80's with inflation running in double digits. Your money gets halved in
a short time at that rate.

You'll probqably be alright since you haven;t even counted your pension or SS. I'd delay SS till 70, since that
is COLA'd so you'd have some inflation protection.

Keeping even a little in equities is probably prudent, but you have to sleep at night.
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Abe
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Abe »

Shallowpockets wrote:If you have a cash position of 40-50x your annual expenses past >5 years that are documented so this is no guessing estimating game, is that OK?
Investor is retired, 62. Not taking SS or a small company pension yet.
What say the BHs?
Are all your investable assets in this cash position? If so, you probably will not run out of money, so it's OK in that regard. I mean you could put it under the mattress and take 2% per year out and it would last 50 years.
Slow and steady wins the race.
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Re: OK to stay in cash if you have 40-50x annual expenses?

Post by Grt2bOutdoors »

SQRT wrote:
Grt2bOutdoors wrote:When you have won the game , it is okay to stop playing.
Oft quoted. Might be smart for some, but if you enjoy the game (I do) why quit? Some above might also view this as throwing money away?
Some may say that, they enjoy the game, but then a black swan appears and as a former teacher of mine used to say "this isn't mickey mouse games, boys and girls". If you don't know what you are doing, you could take a very safe retirement and send it the way of the Titanic. "Don't take risk you aren't willing, able or need to take" - Larry Swedroe
Wiser words have never been spoken.
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