(Dow Jones) In light of last year's brutal market crash, it's more important than ever for retirees and those nearing retirement to prepare a strategy for withdrawing money from their nest eggs, say financial planners at Mason Investment Advisory Services Inc.
Mason's advisors have been talking a lot lately with clients about reasonable rates of withdrawal and investment strategies that can help make their savings last for a retirement that could be 25 or 35 years long. "If an investor is going to stick with a program, you need to set their expectations properly," says Scott George, chief investment officer of the Reston, Va., firm. The firm, founded in 1982, manages about $1.7 billion for its clients, primarily very wealthy individuals and nonprofit organizations.
Mason's director of research, Thomas Pudner, recently studied the performance of a few different types of portfolios over periods of five, 10, 25, 35 and 50 years from 1926 through July 2009, to see how well each would have provided a hypothetical client an annual withdrawal of $40,000, adjusted for inflation or deflation, given $1 million to start with.
Inflation clobbered the portfolio holding only intermediate-term government bonds. Looking at rolling 25-year periods, this portfolio would have sustained the target withdrawal for only a third of them. A portfolio 65% in stocks and 35% in bonds would have met the target over 93% of the 25-year periods and 73% of rolling 35-year periods.
The best results, Mr. Pudner found, would have come from a broadly diversified portfolio that included real estate and commodities. Such a portfolio would have almost always met the withdrawal target, for all of the time periods considered. To be sure, some of these investments, such as commodities, weren't available to individuals until recently.
In talking to clients, the Mason advisors recommend limiting withdrawals to around 4% of their portfolios a year or less. During the market boom of 2006 and 2007, some clients became very optimistic and increased their withdrawals to 6%, says Christopher Schreiner, Mason's chief operating officer. Now, they're cutting back, he says. This is happening "regardless of income levels," says Schreiner.
The advisors typically recommend that clients go with the broadly diversified model portfolio. Some clients would prefer to load up on what they see as conservative investments, such as bonds. This is actually risky, says George, because "you up your probability dramatically of outliving your money."
Individuals who want to be more conservative are offered two alternatives: delay withdrawals by some years, possibly by taking up a part-time job, or withdraw less money in the first few years. Schreiner says a number of clients are choosing to delay retirement, while some have decided not to leave an inheritance for their children.
Here the Mason advisors share their model diversified portfolio, suitable for a client in retirement. This portfolio was up 25% through Nov. 30, net of all fees. Nearly 60% of Mason's clients use this type of portfolio. Its weighted average expense ratio is 0.62%; in addition, clients pay an advisory fee to Mason typically ranging from 0.5% to 1% of assets.
U.S. STOCKS: Thirty percent of the portfolio is in U.S. stocks, with roughly three-quarters of that in mutual funds that buy large-company stocks and the rest in small-stock funds. The advisors also divide this portion of the portfolio among "value" funds, whose managers buy stocks that they consider cheap based on the companies' earnings, and "growth" funds, which buy stocks that typically are pricier because the companies' earnings are growing rapidly. Looked at this way, 19% of the overall portfolio is in U.S. value-oriented funds and 11% is in U.S. growth funds.
For the most part, the advisors use at least two funds in each asset class, which is why the portfolio has holdings in nearly 30 funds. "We do end up owning a large part of the market," says George, the chief investment officer. He believes all these funds are needed to achieve the desired diversification. He says the advisors aim to choose funds that invest differently even in the same asset class and so could perform differently in various market conditions.