How much of my portfolio should be in cash during retirement?

BritishInvestor

_pete_ said:

s there an uncontroversial 'right' answer to this?

Yes, but it will be very specific to your requirements, and you'd need to be clear on "best results" - % success rate, max safe withdrawal rate, "least worst" failure (in terms of when pot could be exhausted), minimum drawdown etc.

michaels

_pete_ said:

michaels said:

The more I think about it the more I think that holding cash to use for specific near term drawdowns is an imaginary construct.

The only reason to hold cash rather than equities is to reduce volatility (ie less downside risk at the expense of less upside opportunity).

Any use of drawing from cash when markets are low is about rebalancing at the edges in response to market conditions whereas in fact rebalancing in response to market conditions may be an appropriate strategy but that strategy should be pursued explicitly rather than implicitly through drawdown adjustment.

michaels said:

I went to cfiresim and tried various different proportions of cash in a cash/equity portfolio with a front loaded drawings profile (to represent a 10 year period from drawdown start to state pension entitlement) and the lower the cash proportion I went with (right down to 0%) the higher the safe withdrawal rate.

This is really interesting.  I appreciate that the extend of one's cash holding depends at least in part on personal factors such as how safe we need to feel (and my initial post was to get a feel for 'real world' practice), but I had assumed that there would be a definitive 'correct' answer to  the following question:
'Which sequence of returns risk mitigation strategy gives the best results over the course of retirement'?
Is there an uncontroversial 'right' answer to this?

https://earlyretirementnow.com/2018/08/29/google-sheet-updates-swr-series-part-28/

So I ran my numbers (750k pot 2x state pension in about 13 years so pretty front loaded on the draw-down) through the SWR toolbox spreadsheet with equities and cash only in varying proportions and found about 80% equities gave the highest 100% success return rate.  Anywhere between 90% and 70% equities made little difference.  This tool requires you to make some assumptions on cash returns going forward, I put in 0% in real terms for the next 10 years and 0.5% thereafter.

Higher returns are modelled using bonds instead of cash but I personally don't see value in bonds at current yields.

Audaxer

michaels said:

The more I think about it the more I think that holding cash to use for specific near term drawdowns is an imaginary construct.

The only reason to hold cash rather than equities is to reduce volatility (ie less downside risk at the expense of less upside opportunity).

Another reason a lot of people might want to hold cash is for the purpose of actually spending it. If for example I want to pay cash for a new car within the next year or so, I don't want to have it invested in equities hoping that there is not a downturn just at the time I need to convert it to cash.

michaels

Audaxer said:

michaels said:

The more I think about it the more I think that holding cash to use for specific near term drawdowns is an imaginary construct.

The only reason to hold cash rather than equities is to reduce volatility (ie less downside risk at the expense of less upside opportunity).

Another reason a lot of people might want to hold cash is for the purpose of actually spending it. If for example I want to pay cash for a new car within the next year or so, I don't want to have it invested in equities hoping that there is not a downturn just at the time I need to convert it to cash.

But that means as you buy your car you are rebalancing your portfolio reducing your ratio of cash to equities, if your asset allocation was optimal before it is sub optimal once you have bought the car and you need to rebalance by selling equities for cash - the very thing you said you didn't want to do.

Audaxer

michaels said:

Audaxer said:

michaels said:

The more I think about it the more I think that holding cash to use for specific near term drawdowns is an imaginary construct.

The only reason to hold cash rather than equities is to reduce volatility (ie less downside risk at the expense of less upside opportunity).

Another reason a lot of people might want to hold cash is for the purpose of actually spending it. If for example I want to pay cash for a new car within the next year or so, I don't want to have it invested in equities hoping that there is not a downturn just at the time I need to convert it to cash.

But that means as you buy your car you are rebalancing your portfolio reducing your ratio of cash to equities, if your asset allocation was optimal before it is sub optimal once you have bought the car and you need to rebalance by selling equities for cash - the very thing you said you didn't want to do.

I would ensure that I held separate cash savings for any large purchases coming up in the next few years. That cash would kept in savings outside of my investment portfolio. So if my preferred investment portfolio consisted of say 60% equities, 30% bonds and 10% cash, I would still have that optimal allocation after the large purchase. 

michaels

Audaxer said:

michaels said:

Audaxer said:

michaels said:

The more I think about it the more I think that holding cash to use for specific near term drawdowns is an imaginary construct.

The only reason to hold cash rather than equities is to reduce volatility (ie less downside risk at the expense of less upside opportunity).

Another reason a lot of people might want to hold cash is for the purpose of actually spending it. If for example I want to pay cash for a new car within the next year or so, I don't want to have it invested in equities hoping that there is not a downturn just at the time I need to convert it to cash.

But that means as you buy your car you are rebalancing your portfolio reducing your ratio of cash to equities, if your asset allocation was optimal before it is sub optimal once you have bought the car and you need to rebalance by selling equities for cash - the very thing you said you didn't want to do.

I would ensure that I held separate cash savings for any large purchases coming up in the next few years. That cash would kept in savings outside of my investment portfolio. So if my preferred investment portfolio consisted of say 60% equities, 30% bonds and 10% cash, I would still have that optimal allocation after the large purchase. 

So this cash pot is not part of your savings portfolio, makes sense.

However you still need to make a decision about when you move money from your savings portfolio into this 'cash to be used' pot so I am not entirely convinced it is effectively a separate part of your portfolio that differs from the cash within what you consider to be your savings portfolio.  If you look at your overall asset position you have equities, bonds and cash even though you have put some of the cash into a bucket called 'near term spend'.  What if you have bought your car and then start thinking about a new kitchen or whatever, at what point do you up your cash percentage for this new planned spend?

shinytop

michaels said:

Audaxer said:

michaels said:

Audaxer said:

michaels said:

The more I think about it the more I think that holding cash to use for specific near term drawdowns is an imaginary construct.

The only reason to hold cash rather than equities is to reduce volatility (ie less downside risk at the expense of less upside opportunity).

Another reason a lot of people might want to hold cash is for the purpose of actually spending it. If for example I want to pay cash for a new car within the next year or so, I don't want to have it invested in equities hoping that there is not a downturn just at the time I need to convert it to cash.

But that means as you buy your car you are rebalancing your portfolio reducing your ratio of cash to equities, if your asset allocation was optimal before it is sub optimal once you have bought the car and you need to rebalance by selling equities for cash - the very thing you said you didn't want to do.

I would ensure that I held separate cash savings for any large purchases coming up in the next few years. That cash would kept in savings outside of my investment portfolio. So if my preferred investment portfolio consisted of say 60% equities, 30% bonds and 10% cash, I would still have that optimal allocation after the large purchase. 

So this cash pot is not part of your savings portfolio, makes sense.

However you still need to make a decision about when you move money from your savings portfolio into this 'cash to be used' pot so I am not entirely convinced it is effectively a separate part of your portfolio that differs from the cash within what you consider to be your savings portfolio.  If you look at your overall asset position you have equities, bonds and cash even though you have put some of the cash into a bucket called 'near term spend'.  What if you have bought your car and then start thinking about a new kitchen or whatever, at what point do you up your cash percentage for this new planned spend?

I try not to over-analyse.  I have a nominal 20% cash target atm and I'm happy to let that vary between 15% and 25% depending on planned expenditure.  After all whatever it ends up as might be better for me than my finger in the air 20%.   

DairyQueen

Audaxer said:

michaels said:

Audaxer said:

michaels said:

The more I think about it the more I think that holding cash to use for specific near term drawdowns is an imaginary construct.

The only reason to hold cash rather than equities is to reduce volatility (ie less downside risk at the expense of less upside opportunity).

Another reason a lot of people might want to hold cash is for the purpose of actually spending it. If for example I want to pay cash for a new car within the next year or so, I don't want to have it invested in equities hoping that there is not a downturn just at the time I need to convert it to cash.

But that means as you buy your car you are rebalancing your portfolio reducing your ratio of cash to equities, if your asset allocation was optimal before it is sub optimal once you have bought the car and you need to rebalance by selling equities for cash - the very thing you said you didn't want to do.

I would ensure that I held separate cash savings for any large purchases coming up in the next few years. That cash would kept in savings outside of my investment portfolio. So if my preferred investment portfolio consisted of say 60% equities, 30% bonds and 10% cash, I would still have that optimal allocation after the large purchase. 

We do the same. Our income portfolio is discrete from cash earmarked for short-term (< 5 years), major expenses. We also have cash ring-fenced for emergency fund and drawdown suspension.

Separating the income portfolio allows me to manage asset allocations specific to our individual tax positions and withdrawal rates.

michaels

Surely drawdown suspension is changing your asset mix by another name?  Do you basically decide that when the markets are by some measure 'low' you should gradually increase the proportion of your fund that is in equities and you do this via your choice of asset to liquidate for drawdown rather than making a specific adjustment?

Audaxer

michaels said:

Surely drawdown suspension is changing your asset mix by another name?  Do you basically decide that when the markets are by some measure 'low' you should gradually increase the proportion of your fund that is in equities and you do this via your choice of asset to liquidate for drawdown rather than making a specific adjustment?

If a retiree can afford to keep a large allocation of cash for large purchases in the next few years, I don't see a problem with that. It is more risky keeping it invested in equities, as there is the possibility of a large market crash just when you need the cash.