There are so many things to think about and consider when folks retire; after all, retirement is a major life-changing event – not just for the retiree but also for the entire family. Even if all the plans work out, for most retirees there remains a nagging fear about two things:
- The retiree is about to give up a steady paycheck. Where will the money come from to replace that regular paycheck?
- Now that the retiree cannot count on earned income to replace future potential investment losses, how should the investment portfolio be structured for maximum protection? Should the retiree become more conservative with investments?
Even when retirees have an abundance of resources, these two very basic issues can be haunting and, if not resolved, can lead to poor decision-making for their retirement years. It pays to put steps in place to address and resolve these issues so our retirees and their family can move forward with confidence and without unnecessary worry. Let’s address both issues here.
Cash Flow In Retirement
“Cash flow” is a term for the methodology that business persons use to ensure that cash is available to run the show. The term “income” is yet another matter. It makes all the difference when individuals learn to deal with the differences and similarities between working with “cash flow” and working with “income.” These two terms/concepts are intertwined and can cause much confusion. The question to be answered for our retiree concerns “cash flow” and not “income.” Where will the cash come from on a day-to-day basis when there is no longer a paycheck?
The first thing to do is to estimate how much “cash” will be needed each month and year. Many folks “feel” as though they must replace the full paycheck amount; however, a good portion of that paycheck went to paying taxes and/or other places which would not recur in retirement.
If our retiree’s “income” while employed was $60,000/year, he really brought home “cash flow” of, maybe, “45,000/year or about $4,100/month. That “cash flow,” then, might be partially replaced by:
- Social Security (net of taxes): $1,500/month
- Pension: $1,500/month
So, the “cash flow” shortfall might only be about $1,100/month ($4,100 need minus $3,000 SOcial Security and Pension equals $1,100), which must come from our retiree’s investment portfolio. Rather than structure the portfolio to produce “income” of $1,100/month, it would be best to structure what is called a “bond ladder.” Purchase a series of 3 or 4 CDs or Treasury Bonds, each in the amount of $13,200, with one coming due in 2022, 2023, 2024, and 2025.
As each bond matures, the “cash flow” will be transferred monthly to the retiree’s checking account, along with their Pension and Social Security.
Prior to retirement, it would be wise for our retiree to arrange for a home equity line of credit, which can serve as a cash reserve in case a large sum might be needed quickly in the future.
Structuring the Investment Portfolio During Retirement
Back in the day, retirees would be advised to become more conservative and move their investments heavily into fixed-income (bond) investments. Retirees are naturally conflicted between the need to preserve the investments which took many years to accumulate and the need to provide for ongoing needs at the same time.
The volatility that is inherent in the financial markets is scarier to the uninformed but is expected and planned for by the professionals. But retirement is no time to retreat from the stock market – as a matter of fact, it is the place to go – not willy-nilly, but in an informed manner.
With “cash flow” needs taken care of for the next several years, our retirees will feel more comfortable holding onto their high-quality stock/equity investments and won’t be forced to sell investments just to raise “cash flow” for living expenses.
Right now, it is more important than ever for retirees to become more informed about, and to stay invested in, stock/equity investments, which are a hedge against rising inflation.
When each bond of our retiree’s bond ladder matures and the cash from the matured bond is used up for living expenses, the stock/equity portion of the portfolio increases over time to replace that cash.
For most retirees who have resolved their “cash flow” issue, a target asset allocation of 50-60% stock/equity investments and 40-50% fixed-income (bond) investments (including the bond ladder) might be appropriate.
By identifying a “guaranteed” source of “cash flow” to replace their paycheck, retirees will then feel much more comfortable with making decisions to concurrently both preserve and grow the investment portfolio for the long term.
This article was authored by Eleanore Szymanski and first appeared in The Times of Trenton.
