Drawdown Strategy Mid Term Investment

joeNZ

So, I'm trying to build a strategy to drawdown from a cash lump sum over the next 20 year period. I'm trying to keep things simple with three investment blocks targeting near term (next 5 years), mid term (6-10) and long term (>10) to service income needs in those periods.

Near term and far term look relatively straight forward to handle in general terms but the 6-10 year period seems more difficult. It looks like I should assign a suitable proportion of the starting capital into a bond heavy index vehicle (eg VLS 40/60?) for consumption in those years. The only reason I would be doing this is to mitigate against some sort of major turn down in the market in the next 5 years whilst still achieving better than inflation growth if there is no down turn.

The yrs 6-10 window is relatively critical because the SP won't kick in until the end of the period so I'll have little option but to draw the cash whatever growth/loss is achieved over the next 5 years. Sitting with an inflation adjusted loss of 10% at the start of that window might be ok, a 50% loss would be a lot more painful.

My question really comes down to bond behaviour during a crash and whether my hedging expectation is valid and how effective. What kind of drop could we expect in a bond heavy index fund during a market crash?

And, what would a reasonable growth forecast be should such a crash not occur? If 5 years is insufficient to achieve a reasonable growth outcome I guess its better just to keep everything in cash.

Any other thoughts as to better ways of handling 5 year investments that have a hard date for cash conversion?

Joe

bostonerimus

Why bother with the artifice of chronological buckets at all. Just keep a year's spending in cash and have an overall equity to fixed income allocation that you are comfortable with. Then use one of the variable withdrawal strategies to take from either equities of fixed income according to performance.

Linton

I support separate buckets because you can allocate your investments to meet your quite different objectives. Sure,if you are happy just to stand back and not get too stressed, and stop drawing down if things get too difficult go for a simple single portfolio. However if the income is important to you I think you can do better.


For 6-12 years time frames there are real problems. You need to be aware that there could be a crash so you dont want to be too high in equities. On the other hand safe bonds dont look like a good option if there is not a crash as the high price of UK gilts is not far from the point at which they provide long term negative returns. Arguably index linked bonds are already there. If the world returns to previously normal interest rates within the timeframe your allegedly safe bond capital values could be seriously hit.


What I do is to diversify in two directions. One is to hold Wealth Preservation ITs. eg Capital Gearing, Ruffer, Trojan O or X as OEICs and the rather more risky RIT. Over the past two major crashes these funds have performed well whilst at least matching inflation at other times. The other direction is to hold high (but not too high) dividend or interest returning funds. Income in £ terms is less volatile than capital values.


A third option is to simply keep most of your 6-12 year needs in cash, with the rest in equities. There is risk from inflation but that may be worth taking.

bostonerimus

If you think in buckets you might have this

short term: cash and very short term bonds
mid-term: intermediate term bonds and maybe dividend stocks
long term: growth stocks.

The short term bucket will be reasonably insulated from the market and interest rates, you can take the yield and dividends from the mid-term and use it to fill the short term bucket if there is a long down turn and hopefully not have to sell too much while the long term recovers. The depth and duration of the downturn or interest rate fluctuations will govern how much you see your pot fall.

Another nice strategy is to have a rental property that produces income as that can take stress off your buckets and stop them from leaking. As Linton suggests you can go for a managed fund that will act as a buffer in the mid-term by regulating the income it pays, but you can achieve the same thing from a total return portfolio and a disciplined withdrawal strategy.

joeNZ

Reason for different buckets ....

I guess its clearer to me how I'm meeting different income objectives for different life stages (also mixed with DB and SP commencements). It just feels more controllable and understandable.

joeNZ

@Linton

The two way play of Wealth Preservation & high div is interesting but is it really worth the effort/risk.

I have been coming round to the conclusion that holding in cash for all income needs over the first 10 years may be the best option until things materially change.

Otherwise I may have to consider whether draw down could be suspended in those years through lifestyle changes should the market tank. This is a viable option and potentially missing out on 5 years of equity growth might force me to accept this route.

thanks

Joe

joeNZ

@bostonerimus

I guess I should have mentioned that I have DB income underpinning my lump sum that makes the whole drawdown strategy less critical that it would otherwise be.

I should also say that my income needs have a variable profile and the whole thing just looks easier to manage if I chunk into buckets.

This discussion has helped clarify the options - I'm tending towards taking on the equity risk if I can honestly persuade myself that I could trim costs in line with accrued gains should I need to.

thanks

Joe

bostonerimus

joeNZ wrote: »

@bostonerimus

I guess I should have mentioned that I have DB income underpinning my lump sum that makes the whole drawdown strategy less critical that it would otherwise be.

I should also say that my income needs have a variable profile and the whole thing just looks easier to manage if I chunk into buckets.

This discussion has helped clarify the options - I'm tending towards taking on the equity risk if I can honestly persuade myself that I could trim costs in line with accrued gains should I need to.

thanks

Joe

With DB income you can come to two completely different conclusions:

1) I have some income guaranteed so I'll treat the DB pension as part of my fixed income allocation so that I now have a high equity allocation in my portfolio as I can afford to take the extra risk;

2) I don't need to take as much risk as I have guaranteed income so I can emphasise capital protection.

I simply don't understand the division of assets into chronological buckets beyond the psychological. Of course we all have to be comfortable with our portfolio and if one perspective or overarching organising principle helps, then that's good enough to make it valid for you, but make sure you don't allow the overall asset allocation to drift away from your plan too much. This discussion over at Bogleheads.org might be of interest to you.

https://www.bogleheads.org/forum/viewtopic.php?t=246198

bostonerimus

joeNZ wrote: »

I have been coming round to the conclusion that holding in cash for all income needs over the first 10 years may be the best option until things materially change.

I retired 3 years before my work DB pension started and I had 3 year's worth of spending in cash just in case. It probably wasn't optimal, but it did keep my blood pressure down. I also have income from a rental so the cash account didn't need to be enormous...10 year's cash sounds like an awful lot to be sitting around being eaten away by inflation. My DB pension has now started, but I still keep 2 year's spending in cash so that I can cover any unexpected large expenses and I am letting my equity allocation drift upwards as with the rental and DB income I can take the added risk and emphasise maximising the size of my portfolio over having it last until I die. Make sure you are not unnecessarily conservative with your asset allocation given your DB pension

Linton

joeNZ wrote: »

The two way play of Wealth Preservation & high div is interesting but is it really worth the effort/risk.
I have been coming round to the conclusion that holding in cash for all income needs over the first 10 years may be the best option until things materially change.
Otherwise I may have to consider whether draw down could be suspended in those years through lifestyle changes should the market tank. This is a viable option and potentially missing out on 5 years of equity growth might force me to accept this route.

Yes, if the income is not vital to you maintaining your desired standard of living then you may not wish to make the effort to ensure it is maintained. In our case it represents about 20% of total ongoing expenditure, a % that will increase over time.

joeNZ

Ok, these are really helpful comments that led me to jamesd's thread on "drawdown: safe withdrawal rates" where he references the "The Yin and Yang of retirement income philosophies" (unfortunately I can't post the URL's).

The "bogleheads" thread referenced above by bostonerimus is also a great reference with regard to bucket strategies. I should say that I hadn't come across the term before this discussion - it was just a natural approach for me when faced with life stages that had differing income demands along with varying discretionary spend and acceptable risk. There are varying opions in the thread but I found wanderer's post best matched my thoughts:

"We found that breaking our expenses down into major "spending buckets", analyzing each bucket separately for risk tolerance needs, and which account(s) to use, then putting them back together was EXTREMELY helpful."

The "Ying & Yang" paper is also a great resource where the investment philosophy of "safety first" is contrasted with "return probablity & SWR".

It strikes me that the safety first (bucket) approach is suited to my near and mid term planning and that the probability approach based on asset allocation is better suited to the long term. I am aware I could bundle all this together but my near and mid term needs are more akin to an inflexible regulated spending plan than an investment strategy.

So, it looks like it will be safe cash investments for the near term and (to address my own question) it will be some sort of wealth preservation focus for mid term.

For the longer term (>10 years) I expect to have significant discretion over expenses with my DB & SP income offering an acceptable minimum income. So, I'll be aggressively allocating equity in the investment portfolio especially since additional property assets will also be available and legacy is not a concern.

Thanks again to Linton and bostonerimus.