Building a better retirement portfolio

Steve Merrell |

Q: I am getting ready to retire. Is there anything I should be doing in my portfolio to be better prepared? I read somewhere that I should hold a percentage of stocks in my portfolio equal to 100 minus my age. I’m almost 65. Should I really have only 35 percent of my portfolio in equities?


A: Several studies have refuted the old “100 minus your age” rule of thumb, so I suggest we retire it. In fact, given today’s low level of interest rates, I doubt most people who follow that rule of thumb will earn enough on their portfolios to keep ahead of inflation and maintain their standard of living.


A better approach is to base your asset allocation on the results of a well-constructed financial plan. The best financial plans will project your year-by-year cash flows for the next several years. The cash flows should include income from various sources and outflows for normal living expenditures plus other “lumpy” outlays. Lumpy outlays might include car purchases, home maintenance, vacations, the education of grandchildren, etc. 


The year-by-year cash flow projections are particularly valuable when it comes to deciding how much of your portfolio to invest in bonds versus stocks. Instead of using arbitrary rules of thumb to allocate your investments, you can set aside investments to fund specific cash flow needs. Here’s how it works.


Let’s suppose your projections show that your annual outflows will equal $50,000. Suppose further that you have sufficient income from Social Security and a small pension to cover $40,000 of your projected annual expenses. The $10,000 shortfall each year will need to come from your investment portfolio.


You can effectively “lock in” enough money to cover your $10,000 shortfall for a given year by buying $10,000 worth of bonds that mature in that year. For example, if you want to make sure your income shortfall is covered for the next 5 years, you would keep $10,000 in CDs to cover the shortfall for the first year and buy 4 different $10,000 bonds that mature after each of the next 4 years.


At the end of each year, one of your bonds will mature and you will rebalance your portfolio. You will take the money from the matured bond and invest it in CDs to cover the coming year’s shortfall. At the same time, you would sell enough stocks to buy another bond that matures in 4 years, thus maintaining the five-year window of locked in payments.


The portfolio of bonds is known as your income portfolio. The balance of your portfolio would be invested in stocks and is known as your growth portfolio. The purpose of your income portfolio is to provide certainty that you will be able to meet your cash flow needs. The purpose of the growth portfolio is to produce a return above the level of inflation thereby protecting the purchasing power of your retirement savings over time.


As you manage your portfolio over time, you can decide how much cash flow protection you want. If the stock market is down during your annual rebalancing, you may find it more favorable to wait until a recovery to sell the stocks needed to replace the bonds that matured.


The more cashflows you lock in, the more certainty you will have in your portfolio. However, increased certainty comes at a cost. The more you have in bonds, the less you have in stocks to provide growth. In addition, when interest rates are low, bond prices are high making the cost of protection just that much more expensive. Your financial planner can help you determine the amount of protection that is right for your situation.



Steven C. Merrell  MBA, CFP®, AIF® is a Partner at Monterey Private Wealth, Inc., a Wealth Management Firm in Monterey.   He welcomes questions that you may have concerning investments, taxes, retirement, or estate planning.  Send your questions to: Steve Merrell, 2340 Garden Road Suite 202, Monterey, CA  93940 or email them to