Asset allocation based on portfolio size

[GGNoob]

I just wanted to bring this up and get a little debate going to hear others’ thoughts on the subject.

Somebody on the Bogleheads forums mentioned his plan for his asset allocation. He’d start with 100% stocks. Then when he reached 25x his current expenses, he’d lower that. Then he’d have different thresholds that when he hit them, he’d lower his stock exposure even more.

I cannot find the post nor do I remember who posted it. But let me just put up an example:

0-24.9 x expenses: 100% stock
25.0-28.9 x expenses: 80% stock
29.0-32.9 x expenses: 60% stock
35+ x expenses: 40% stock

Basically during the accumulation phase, he’d be 100% stock. Then once he hit FI at 25 times his current expenses, he’d start adding bonds. Then as the portfolio grew, he’d continue to decrease the risk until he was at his final allocation.

If I remember correctly, he did not plan to RE. My wife and I are kind of in the same boat. We may hit FI in 15 years or less, but we may continue to work for another 10-15 years after that.

I guess I’m just posting to get some thoughts on an idea like this. Here are some questions to consider:

Does anyone here currently have this in their investment plan?

If you are planning to be 100% stock, would a plan like this get you to add bonds later in life?

If you had to set up a plan like this, what would your thresholds be?

[phillyvalue]

Philosophically, I'm not sure it makes sense particularly coupled w/ the plan to continue working. I think the underlying idea is, "If I have enough already, it doesn't provide me any benefit to risk what I need for a chance at getting something I don't need." That makes a lot of sense in that, if someone offered you a gamble to triple your money or lose it all, 50/50 odds, you wouldn't take the chance of losing it all in order to possibly go from having a portfolio of 25X annual expenses to one of 75X expenses. But I think an investment in a diversified index of U.S. equities is quite a different gamble. It's a gamble where the risk of losing everything outside of a world-ending event is near zero, and where you have a very strong chance of winning over time.

In my opinion, if I had a portfolio large enough to live off of plus I was still intent on working for 10-15 more years, I would not be afraid of holding mostly equities. The risk of seeing your portfolio temporarily drop from 25X expenses to 15X expenses would not be permanently damaging if you are working and don't have a need to touch your portfolio.

That said, I doubt you could go wrong either way if you are committed to maintaining a constant lifestyle. If I were going to do this, I'd be conscious of getting too much exposure to fixed-price investments like bonds. Bonds carry their own risks in exposing you to inflation and locking in a low rate of return.

[GGNoob]

Philosophically, I'm not sure it makes sense particularly coupled w/ the plan to continue working. I think the underlying idea is, "If I have enough already, it doesn't provide me any benefit to risk what I need for a chance at getting something I don't need." That makes a lot of sense in that, if someone offered you a gamble to triple your money or lose it all, 50/50 odds, you wouldn't take the chance of losing it all in order to possibly go from having a portfolio of 25X annual expenses to one of 75X expenses. But I think an investment in a diversified index of U.S. equities is quite a different gamble. It's a gamble where the risk of losing everything outside of a world-ending event is near zero, and where you have a very strong chance of winning over time.

In my opinion, if I had a portfolio large enough to live off of plus I was still intent on working for 10-15 more years, I would not be afraid of holding mostly equities. The risk of seeing your portfolio temporarily drop from 25X expenses to 15X expenses would not be permanently damaging if you are working and don't have a need to touch your portfolio.

That said, I doubt you could go wrong either way if you are committed to maintaining a constant lifestyle. If I were going to do this, I'd be conscious of getting too much exposure to fixed-price investments like bonds. Bonds carry their own risks in exposing you to inflation and locking in a low rate of return.

Thanks for your input.

I just thought this was an interesting concept and don't actually plan to implement it for us. Our plan is 100% stocks and will probably stay that way. Pensions and SS will be our fixed income.

My wife and I look at hitting FI as our F U money. If we aren't happy with our jobs at that time, we can say F U and move on to something we like, regardless of pay. This will just be something to do with our time to keep us happy and busy. Then main thing is, if we had the option, neither of us would want to retire right now with our current expenses. We want to continue to work and save so that we can retire and increase our spending to allow for a lot more travel.

So with that said, 25x expenses might mean we are FI, but we wouldn't retire until we could have the retired life we want.

[KD]

Do not forget that even if it's a 100% stock allocation - whichever stock can be loosely classified/considered a Conservative, Value, or Growth stock.  All risks are not created equal.

[Dodge]

I just wanted to bring this up and get a little debate going to hear others’ thoughts on the subject.

Somebody on the Bogleheads forums mentioned his plan for his asset allocation. He’d start with 100% stocks. Then when he reached 25x his current expenses, he’d lower that. Then he’d have different thresholds that when he hit them, he’d lower his stock exposure even more.

I cannot find the post nor do I remember who posted it. But let me just put up an example:

0-24.9 x expenses: 100% stock
25.0-28.9 x expenses: 80% stock
29.0-32.9 x expenses: 60% stock
35+ x expenses: 40% stock

Basically during the accumulation phase, he’d be 100% stock. Then once he hit FI at 25 times his current expenses, he’d start adding bonds. Then as the portfolio grew, he’d continue to decrease the risk until he was at his final allocation.

If I remember correctly, he did not plan to RE. My wife and I are kind of in the same boat. We may hit FI in 15 years or less, but we may continue to work for another 10-15 years after that.

I guess I’m just posting to get some thoughts on an idea like this. Here are some questions to consider:

Does anyone here currently have this in their investment plan?

If you are planning to be 100% stock, would a plan like this get you to add bonds later in life?

If you had to set up a plan like this, what would your thresholds be?

Depending on how much time they spend in each phase, it will probably be the equivalent of 70/30 or 80/20 averaged over the long term.  I'd rather keep it simple and pick 70/30 or 80/20 from the beginning and stick with it.

[forummm]

It seems like the guy has it backwards. If you were going to retire with 35x or more, you could be really aggressive and not worry about running out of cash. You'd end up with a ton of money at the end of your life for charity or whatever.

[GGNoob]

Depending on how much time they spend in each phase, it will probably be the equivalent of 70/30 or 80/20 averaged over the long term.  I'd rather keep it simple and pick 70/30 or 80/20 from the beginning and stick with it.

Yes, very true and much simpler!

[GGNoob]

It seems like the guy has it backwards. If you were going to retire with 35x or more, you could be really aggressive and not worry about running out of cash. You'd end up with a ton of money at the end of your life for charity or whatever.

Another good point. If you are only withdrawing a small amount, you'll never have to worry about running out.

[Indexer]

I don't like this portfolio size allocation just because it looks at investing from a very negative view.  You are worried about losing this big nest egg.  If you are diversified you will see fluctuations but you don't have to worry about losing it all.


I look at mine like a time based allocation and my allocation ends up basically the opposite because of it. 

Money I could need in the next 2 months:  cash
could need in 2-12 months:  VASIX(80% bonds, 20% stocks, super diversified, low cost, worst year it was down 10.5%, I treat it as an EF.)
1-9 years:  years left times 10% in stocks, rest in bonds(so year 1 is 90% bonds/10%stocks)
10+:  stocks.

So any money in the short term is in cash or VASIX.  The money for year 10(+) is 100% stock, year 9 is 90%, 8 is 80%..... 2 is 20% stock.   The money needed in the next 10 years ends up being 50%bonds/50%stocks.

Right now I have 2 months in cash, 4 months in VASIX(for 6 month EF), and the rest in stocks because I'm over 10 years from FIRE.

Once I'm within 10 years I'll start adding bonds.  Some might say this is too aggressive, and you could always do the same thing but put bonds as a bigger piece.

My logic is that in a crisis I would be using dividends/income first, and then bonds.  By the time I would need to touch stocks they have had a chance to recover, and honestly if I'm FIRE I shouldn't need to touch them anyway.

REITS are just included as part of the stock allocation.

[FI40]

I'm planning on doing something like this. However I'd add bonds much earlier, and by the time I reach 25x annual expenses I plan to be maybe as much as 50% bonds.

In the "FI phase" (post 25-30x expenses) the current plan is to RE but still make some income doing some enjoyable jobs at least at first. Gradually, I'd start adding in equities again and move to an eventual near-100% allocation at, say, 50-60x annual expenses.

The idea is to reach the FI phase quickly and safely, avoid any large drop in equities derailing FIRE plans in the early years of it, then, as side-hustle income accumulates, or a recession is weathered, or just good times in the market happen, bonds can be sold as wealth preservation is less of an issue. Finally it becomes more about maxing out the portfolio long term to leave as an estate or more likely to donate to charity in fun and good ways.

I got this idea for a U-shaped equity allocation from the Radical Personal Finance interview with Wade Pfau. I was already planning the first part of the U, and hadn't thought much about the post-FI part of it but it seemed to make a lot of sense.

[actuary]

This scenario contains at least two concepts:  (1) declining length of future working lifetime and (2) increasing ratio of assets to goal. 

Focussing on the first, there's some theory that says you should keep your mix of stocks and fixed income the same over time (It diversifies stock exposure across time and maintains an even percentage risk level, both of which are optimal.)  However, you should the count the present value of your expected future earned income as fixed income.  This first concept alone might explain a big part of your planned shift to fixed income. 

Your risk aversion at retirement would explain your asset mix at 25 to 30 years out. 

If you keep working, you'll expect to go from 25 x expenses to 35 x pretty fast, so your shift to bonds looks to be happening faster than your future income stream will be capitalized.  Perhaps a kink in your utility around 25 x expenses would explain your rapid shift.  This is the second concept.

In your shoes, I'd have a higher stock allocation at retirement, as you'll still have a long time horizon then.  You probably gain no safety below 60-75% stocks.  You may even have a higher risk of not keeping up with inflation; and, you lose a lot on average.  Keep in mind that you'll still have social security of some kind at that point, which is like a bond (with some political risk).

Faced with having substantially more than needed to retire, rather than put a lot in bonds, I'd sooner keep the stock allocation high, lower my spending by a small amount the first few years, and expect to have much more later.  This isn't so much a question of temperament, but simply based on the historical statistics that suggest bonds are not very competitive with stocks over longer periods, so they don't make sense even for fairly risk averse persons.   

Finally, another concept:  it probably doesn't make sense to drop your mix out of stocks in the short period before retirement (as opposed to right after).  Before you pull the trigger and retire, you have an extra sort of security in the option value of keeping working.