How can I maintain my current retirement income?
I retired in February of this year at the age of 66. I was earning six figures. I have a 401(k) with $410,000 in it. Sixty percent of it is allocated to bonds and the rest is in stocks (mostly an S&P 500 index fund). I am receiving retirement funds from the Air Force Reserve and a railroad retirement plan. I have been pulling $1,500 a month from the 401(k) to supplement my income, but I have more money in the 401(k) than when I started retirement in February. My monthly income is about $6,100, and this covers all of my expenses. I seem to generate money most days the market is open, although I know that the market could take a downturn anytime. What should I do to maintain this income stream? Is the allocation of my 401(k) advisable?
First of all, I must assume (since you don't mention it) that you have no meaningful savings put away outside of your retirement account. If this is true, it looks as though you are able to cover expenses with pension income plus $18,000 per year (pretax) in withdrawals from the 401(k). $18,000 is 4.4% of the value of your account, so the withdrawal rate is sustainable, more or less.
If you do have a savings account, take the $1,500 per month from it and not your 401(k) (which you should roll over to an IRA at some point). 401(k) withdrawals are taxable and withdrawals from savings are not. Let the assets in the retirement account grow as long as possible, and take them only when you have to -- at age 70-1/2 and after.
But I have to mention that I think 60% bonds is too much. You are subject to "the risk of safety" in that your retirement assets may feel safe, but are unlikely to grow much. Even an extra 2% per year, over the next 20 years, can make a big difference in your lifestyle. I know markets are at highs and that has everyone worried, but I think a 66-year-old who needs less than 5% of his assets in any given year can consider himself a long term investor. I would hold 65-70% equities. Also, consider preferred stocks as an alternative to bonds. I can give you more information on this if you are interested.
Now, don't go changing all at once. We are bound to get a selloff and when it comes you should consider it a buying opportunity.
Overall, your situation sounds reasonable. You are drawing about 4.4% from your 401(k) on an annual basis. Studies have shown that this should be pretty sustainable with your current allocation. That being said, you should continue to manage your overall portfolio and adjust the monthly draw based on annual performance, making sure that it doesn't grow much beyound 4%. Funds needed to support your monthly draw over time should first being taken from the income the account is generating and then taken from capital gains on a proportionate basis in order to maintain the allocation.
As you mention, the market can take a downturn anytime. If that happens, the balance that you draw from will be smaller and if you continue to pull $1500 a month from the 401k, the account may be depleted much sooner than you desire. The only way to maintain a dependable retirement income is to create an income floor by converting some assets into fixed or guaranteed income streams. Creating bond ladders or using annuities are the two most common ways to create income floors.
If you are open to adjusting your income each year you might consider a Dynamic Safe Withdrawal Strategy versus the static withdrawal strategy what you indicate you're using. It is rare that a retiree's consumption remains the same throughout their entire life. Therefore, you may also consider Asset/liability matching with a "liability-driven" portfolio.
A liability driven portfolio is an investment strategy based on the cash flows needed to fund future liabilities of a retiree. This requires an extensive analysis of current and anticipated future expenses, a calculation of all available assets including real estate, pensions, and other assets that can be matched to future liabilities. Annual ongoing monitoring to make adjustments along the way is critical to this sort of retirement income planning.
The problem is most asset allocation methods often overlook the funding risks, like inflation and currency, associated with an investor’s goals. By integrating the liability into the portfolio optimization process it is possible to build portfolios that are better suited to hedge the risks faced by a retiree. While these “liability-driven” portfolios may appear to be less efficient asset allocations when viewed from an asset-only perspective, the research finds they can actually be more efficient when it comes to achieving a sustainable retirement income.
Whether your 401k allocation is advisable cannot be determined without a deep dive into your entire financial picture. This would include not only an assessment of your risk tolerance but, more importantly, your risk capacity. In addition to the traditional lists of accumulation-focused investment risks, you should consider Household Shock Risk, Spending Risk, and Income Risk when constructing an investment allocation.
There is a lot to consider.
What you pose is a great question “how do I maintain this income stream”. Years ago, when I first entered into the investment world I kept thinking there was a Holy Grail method to be discovered. Many years since I have found that there are probably more investment methods and tools to accomplish investors goals than investors to trade them. However, I found that the success of each method had to rely on universal fundamentals, but more importantly, the method and tools used had to match the viewpoint of the investor or advisor for long-term success. (i.e. if the investor doesn’t believe in using stocks for investment then the least amount of negative market returns will cause the investor to likely sell too soon or some other negative actions).
If I were you I would decide whether you wish to use an investment advisor for advice or go it alone. If you go it alone I would recommend that you should probably reduce your stock exposure and bond maturity length to mitigate a downturn in the stock market and a possible increase in interest rates (bond values go generally opposite of interest rate increases) till you learn a bit more how markets work. Then at some point, you will need to make your method your own. I will caution you to have patience with yourself in learning.
However, if you choose to find an investment advisor I offer you that many advisors probably could get you to your goal. Just understand that you are borrowing their methods, so your responsibility is to hold them accountable to their method and not to instruct them on how to do their job. If you find yourself instructing the advisor it’s probably because you are not confident in their method and/or advisor’s ability. When this happens you should cut your loss and just go find another advisor or method. Think about it like if you had a subordinate you continue to have to micromanage. It will drain you and you would probably be better off just doing the task yourself.
Once you decide which path to take it will be easier to decide on more questions to ask. Good luck and keep asking questions on Investopedia. It’s a great resource for investors.
The 1,500 you're pulling monthly equates to a withdrawal rate from your 401(k) of about 4.4%, which is rather normal. If you make 4% return on your money, it will last 60 years. If you make 2%, it will last 30 years. If you make 0%, it will last 22 years. I don't suggest taking much risk as you should do fine as long as you don't suffer any large losses. Your allocation is pretty good. I suggest moving your bonds down to about 40% (their profit potential in coming years is limited since interest rates are already so low), keeping your stocks between 30%-40%, and try to find some "alternative" choices that don't correlate with stocks or bonds. This will give you more diversification for a smoother ride through the rough patches.