Ryan Kilkenny 0:00
Hi everyone and welcome to The Atomic Retirement. I'm your host, Ryan Kilkenny, the founder of Atomic Planning, an independent, veteran-owned, fee-only financial planning firm bringing tax and retirement planning to families over age 50. Atomic planning is a virtual financial planning practice in Kansas City, serving families from coast to coast, from California to North Carolina. Thank you for joining me and welcome to episode five of The Atomic Retirement.
Ryan Kilkenny 0:31
Today, I'm talking about why the classic 60/40 portfolio is probably wrong for you, and how I think about asset allocation. There are three main asset classes. They are: stocks, bonds, and cash, and how much you decide to put into each is what we call asset allocation.
Ryan Kilkenny 0:51
For many years, a lot of financial professionals have recommended that people invest 60% of their money in stocks, and 40% in bonds. This is known as the 60/40 portfolio, and it's also known as a balanced portfolio. On its surface, it's relatively straightforward and simple, using stocks as the growth engine of the portfolio and bonds for portfolio stability. But simple doesn't make it right for you.
Ryan Kilkenny 1:20
Remember how I said stocks are the portfolio's growth engine and bonds are there for stability? What did I mean? Well, according to data from NYU from 1928 to 2021, the S&P 500, or stocks, averaged 11.82% a year with dividends reinvested.
Ryan Kilkenny 1:40
Well, what about bonds? Treasury bonds earned an average of 5.11% a year, and corporate bonds fared a little bit better at 7.19% a year.
Ryan Kilkenny 1:51
In summary, over a long period of time, 94 years to be exact, stocks out earned bonds. And they did so handedly, beating corporate bonds by an average of 4.63% a year and treasury bonds by 6.71% a year. Now, these are just averages and returns vary a lot from year to year.
Ryan Kilkenny 2:14
What do you think the difference was between the S&P 500's best and worst years? Well, if you guessed it, 96.4%, you're correct. Get this. The S&P 500 returned 52.56% in 1954, but it was negative 43.84% in 1931. Not exactly stable, right? The difference between treasury bonds best and worst years came to 43.93% and it was 44.73% for corporate bonds. The 60/40 portfolio aims to have a balance between risk and return, a balance between growth and stability.
Ryan Kilkenny 3:01
So why do I think the classic 6040 portfolio is probably wrong for you? Well, I don't believe in a one size fits all solution. It's cookie cutter. And the last time I checked, you're not covered in sugar.
Ryan Kilkenny 3:17
Just defaulting to a 6040 portfolio doesn't factor in your goals or personal circumstances. And it may not be the best fit for your situation. There may be a better allocation for you.
Ryan Kilkenny 3:30
And so how do I think about asset allocation, you know, how much you might want to have in stocks versus bonds? Well, I believe there are two different types of retirement investors. There are people that are adding to their retirement accounts and people that are taking from their retirement accounts. Take me for example. I'm adding to my accounts and building wealth so that I can comfortably retire one day. I don't own any bonds. But I'm also a 35 year old, with a high risk tolerance and the vast majority of my net worth inside retirement accounts that I can't even access (without a penalty) until I'm 59 1/2. That's 24 years away.
Ryan Kilkenny 4:11
Where would I rather have my money? In stocks or bonds? In growth or stability? For me, the answer is stocks, and the higher expected growth they may provide. But again, that's just me.
Ryan Kilkenny 4:25
Other people may not be comfortable seeing their 100% stock portfolio fall by 40% or more in a year. They may feel more comfortable in a portfolio with some allocation to bonds. In my practice, I use a risk tolerance questionnaire that helps to identify an investor's comfort level, based on hypothetical fluctuations with their own accounts. I use this as a starting point for figuring out how fast they like to drive with their investments, because I want to ensure we're speaking the same language.
Ryan Kilkenny 4:59
So what about people that are taking from their retirement accounts, or those that are about to? Well, it's probably not wise for them to have all their money in stocks. They're likely going to need more stability and a higher exposure to bonds and cash because the very last thing a retiree ever wants to do, is to be forced to sell stocks when they're on sale. And so for them, I talk about a war chest. Now, I did not come up with this name. But I do find it appropriate as somebody that served as a Marine Captain.
Ryan Kilkenny 5:32
And so what's the war chest? The war chest is at least five years of retirement income allocated between cash and bonds. It's a plan for the next down market, a buffer or a reserve that buy stocks time to recover. It gives you permission to sleep at night, knowing you don't have to touch stocks for at least the next five years.
Ryan Kilkenny 5:57
How about an example? Let's say you have a $1 million retirement portfolio, and you need $50,000 in income per year. Your war chest would have at least five years of retirement income allocated between bonds or cash. So $50,000 a year times five years equals $250,000 in cash and bonds. For a $1 million portfolio, that's a split of 75% in stocks and 25% in bonds and cash. That's quite a bit different than a 60/40, right?
Ryan Kilkenny 6:35
Let's do another example. Let's say you have a $5 million retirement portfolio, and you need $100,000 in income per year. If you blindly invested in a 60/40 portfolio, you would have $3 million in stocks and $2 million in bonds and cash. But you only need $100,000 in income a year. That means you'd have 20 years of retirement income allocated to bonds and cash. Now, perhaps that feels right to you, but perhaps it doesn't.
Ryan Kilkenny 7:09
I'm not a fan of blindly following rules of thumb, especially investing money in a 60/40 split. Instead, I believe we should arrive at our asset allocation as the result of a planning process. Now, don't get me wrong, we may end up at a 60/40, or close to it, but it shouldn't be because of a rule of thumb.
Ryan Kilkenny 7:32
That's it for today. If you have any questions or want to learn more, or see if we'd make a good team, you can find me at atomicplanning.com. There's a "Contact Us" button in the upper right hand corner of the website that makes it easy to schedule a Zoom meeting with me.
Ryan Kilkenny 7:48
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Ryan Kilkenny 8:04
This podcast is for informational and educational purposes only. It should not be relied upon for any investment, tax, or legal decisions. Clients up Atomic Planning may maintain positions in the securities discussed in this communication. I try my best to bring you valuable information, but I may not know anything about you or your personal situation. So please talk with your fee-only financial planner, tax, and or legal professionals before taking any action or making any decisions about your own financial plan. Atomic Planning is a veteran-owned Kansas state registered investment advisor providing independent tax and retirement planning.