A few weeks ago, four Merriman advisors got together for a round table conversation to review themes that came up during meetings with their clients. Aaron Spencer, Mark Metcalf, Paresh Kamdar and Tyler Bartlett all provided insights on the most common questions that investors are asking. Over the 40 minute conversation, you’ll hear their take on the following themes:
Please share your view of convertible bonds as an asset class for folks entering retirement.
Convertible bonds are a unique asset class in that they have features of both stocks and bonds. They are often referred to as “hybrid” securities. This, along with their typically sub-par credit rating, is why they do not fit into our bond portfolio.
We prefer to keep the stock and bond components of our portfolios separate. Our bond portfolio is designed to buoy the allocation in times of stock market stress. The potential for convertible bonds to act like stocks does not jive with this logic. If convertibles – due to their hybrid nature – were showing stock-like tendencies when stocks were declining, your portfolio would have much less downside protection. As we have seen in the recent past, it is extremely important that investors maintain some level of protection in their portfolio. We do not believe convertible bonds are the solution. (more…)
At 61 years old, what is the best way to transition from an all stock portfolio to a 60% stock 40% bond portfolio?
This is a difficult question to answer without knowing your specific set of circumstances. To narrow the scope I will assume the following: 1) you will retire at 65, 2) you will take a 4% annual distribution from the portfolio upon retirement, and 3) you are using a globally-diversified portfolio like the one we outline in The Ultimate Buy-and-Hold Strategy.
Regarding the third assumption, it is extremely important to understand that different portfolios have different risk characteristics. A 60% stock 40% bond (60/40) portfolio allocated to the S&P 500 and high-yield junk bonds is entirely different and much riskier than the one discussed in the aforementioned article.
That said, I would make the switch immediately. With four years until retirement you cannot afford to subject the entirety of your portfolio to the risks associated with stocks.
For perspective, consider that the financial crisis cut the average stock portfolio value in half. Taking distributions from an all-stock portfolio during such a time period has disastrous consequences on the longevity of your assets. This is why, as investors near retirement (the distribution phase of a portfolio), they should – as you’ve indicated – consider adding a preservation component (bonds) to their portfolio.
If the goal is to achieve a 60/40 allocation by retirement, many people will initiate the transition process around the time they reach age 50. This longer time frame for transition allows the use of ordinary cash flows and rebalancing opportunities to make it a cost-effective and natural process. Your situation calls for a less subtle shift. Nonetheless, it is a shift in the right direction and, as mentioned above, I would proceed.
I am considering buying bond funds and would welcome your recommendations. I recently read in Time magazine that you could get hurt if you’re invested in a bond fund. How can I get hurt holding bonds?
Many people think bonds are risk free, but that is not actually true. There are multiple risks associated with bonds, but they can be an extremely important component of a portfolio despite those risks. And, if properly allocated, they can provide a level of security above and beyond the equity markets. Of course there is no free lunch, and the added stability of bonds requires a tradeoff. Namely, you are foregoing the equity premium associated with stocks.
We recommend using a mix of high quality short- and intermediate-term government and Treasury issues. For tax-deferred accounts we include Treasury Inflation Protected Securities (TIPS). This allocation is purposefully designed to be very conservative. Nonetheless, it is still subject to certain risks. Interest rate and inflation risk make the top of the list. You can alleviate the risk of inflation through the use of TIPS. Interest rate risk is somewhat of a different story.
There is an inverse relationship between bond prices and interest rates. As rates rise, bond prices fall and as rates fall, bond prices rise. Longer-term bonds are hit hardest in a rising rate environment; short-term issues are hurt the least. Of course shorter-term issues generally pay less interest. If you want an appreciable return – especially in today’s low rate environment – you need to extend beyond extremely short-term debt. Our solution is to limit risk exposure and also gain some additional yield by using high quality short- and intermediate-term US government and Treasury debt.
So far, this workshop has covered the most important things every investor should know and think about. However, all the investment knowledge in the world won’t do you much good unless you put it to work in your portfolio and your life.
In the sixth session of our online workshop, Moving into action, I identify the key things that will be most useful in translating knowledge into action and action into results. I’ll also point you to a lot of helpful books and other resources.
Recommended reading to supplement this section: “Your Action Plan,” Chapter 15 in Paul’s book “Live It Up Without Outliving Your Money.”
When you retire, your financial life may change profoundly. You may have been saving money all your life, and suddenly the flow of dollars starts moving the other way. This change has large challenges emotionally, mathematically and financially.
In the fourth section of our online workshop, Paul discusses taking distributions in retirement and suggests solutions that are likely to work for retirees in various circumstances.
We hope you have enjoyed the first two sections of our online workshop. The third section, Selecting the best mutual funds, is now available at our YouTube channel: www.youtube.com/merrimaninc.
Thousands of mutual funds are available in today’s marketplace, but only a handful are truly the very best for investors. In this section of the Merriman Online Workshop, Paul Merriman compares two fund families, showing why each is worthy of your investment dollars and your trust.
If you missed the first two sections, you can find them here:
A couple of weeks ago, we introduced our online workshop with Section 1: Choosing the best asset classes.
Now Section 2, Fine Tuning Your Asset Allocation, is available at www.youtube.com/merrimaninc. Arguably the single most important decision every investor makes is how much of his portfolio to hold in stock funds and how much in bond funds. This is the main determining factor in both risk and returns. In this section, Paul Merriman uses a table of investment results going back to 1970 to help you choose the allocation that is most likely to be successful for you.
The six videos that make up Section 2 cover:
1. Fine Tuning Your Asset Allocation 2. Fine Tuning Table 3. S&P 500 vs Worldwide Equity 4. The impact of adding fixed income 5. Fine Tuning for retirees and moderate risk investors 6. Finding your personal best asset allocation
Convertible bonds are a unique asset class in that they have features of both stocks and bonds. They are often referred to as “hybrid” securities. This, along with their typically sub-par credit rating, is why they do not fit into our bond portfolio.
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