How to Optimize Retirement Spending During COVID-19

The enduring COVID-19 pandemic has retirees (or those nearing retirement) taking a second look at their “buckets of funds” – sources of cash for spending during the next 20-30 years.

In all likelihood, folks will spend their more secure and predictable forms of income to pay for food, utilities, medical care, mortgage payments, etc. – and their less predictable streams of funds will be used to cover more discretionary types of outlays.

Income Buckets

Retirees might view the secure bucket as paycheck replacements and the less secure bucket as holiday bonus replacements, or “sell-if-you-must” sources of cash. Nothing new here except, perhaps, a bit of belt-tightening until COVID-19’s dark cloud wanes. In short, a wise spending strategy in pre- or post-retirement necessarily includes two primary buckets of retirement income: (1) a sufficient amount of guaranteed income to cover life’s routine necessities, and (2) a cache of equities/bonds/real estate from which to draw funds to meet more occasional or unexpected outlays. Liquidity is the key element of the latter bucket; thus, it should include a “Rainy Day Fund” as a protective firewall against having to prematurely raid other portions of the second bucket stemming from unavoidable market decline.

Comfort in Numbers

IRAs, 401(k)s, and the like have made remarkable recoveries from the depths of the initial COVID-19 train wreck – as of July 22, 2020, the Dow was up 41% and the S&P 500 was up 49% from their March 23 lows. However, this rattling experience has planted seeds of worry in the minds of those in or near retirement. In previous blogs, I’ve nibbled around the edges of various cash sources, discussing how they might be viewed during an individual’s later years. Those “first bucket” sources of income (i.e., Social Security, annuities, and/or pension payments) provide familiar comfort in the form of regular bank deposits. That “second bucket” of retirement income – stocks, mutual funds, real estate, etc. – suggests a less regular flow of funds, impacted occasionally by an ever-volatile marketplace.

By the way, annuities provide protection against unusual longevity but come with significant inflation risk, reduced portfolio flexibility, and less “trickle down” for heirs. Delaying Social Security can provide similar protection with fewer negatives and offer those delightful inflation adjustments. In my rather biased view, an annuity makes sense only if a retiree is 70-plus and still seeks protection against longevity.

The SS Delay

Let’s delve further into Social Security. A common recommendation retirees hear is to delay taking Social Security beyond normal retirement age. If a prospective retiree decides to follow this advice, another source of income should be set aside to fund the near-term income vacuum the delay creates. For example, if a delay to age 70 takes $100,000 out of an individual’s near-term income picture, $100,000 should be set aside from the remaining portfolio and placed in a safe account (perhaps a treasury bond fund) to replace those delayed Social Security checks. And for the resultant balance of the portfolio, a recalculation of the spending amount using a lower rate of annual spending (e.g., 3.5% vs 4%) based on one’s age should be considered. Adjustments to ANY spending strategy should be modified by expectations of a long or short longevity, high or low real interest rates and market value expectations, and how much (or little) a retirement portfolio holds of “market risk equities” versus “inflation-adjusted income”. Guestimates all, no doubt, but necessary.

Asset Allocation

A common question posed by my subscribers is, “In the few years before and then during retirement, what is the best allocation for a retirement portfolio?” I have an opinion, which is just that - an opinion. It first assumes setting aside funds to fill any Social Security delay until age 70. After age 60, I lean heavily toward an allocation much like Vanguard’s Target Retirement Income Fund (VTINX)… approximately 30% stock funds and 70% bond funds, which includes a 12% portion in international stocks and 16% in international bonds. It also includes roughly 17% of short-term inflation-protected securities that cozies up nicely with those inflation-adjusted Social Security checks, whether or not delayed. Folks who fret excessively about inflation (like me) might wish to go heavier on stock index funds. Those less concerned about Izzy The Inflation Monster might consider a higher percentage of bonds or a total bond fund (the latter would certainly not be my cup of tea). My own bottom line allocation reflects those oft-mentioned PDQ Principles: Quality (including equities with low annual operating expenses); Diversification (a fund of funds including international assets); and, of course, a big dab of Patience.

To Have or Have Not

“What about insurance?” subscribers ask. If you are retired and without dependents, why keep paying for life insurance? One obvious situation might warrant it. If you’re married and most of your retirement income is pension-related with minimal survivor benefits, then yes, life insurance would be in order. And health insurance is absolutely necessary, particularly if retiring early (prior to Medicare eligibility). Liability insurance (perhaps an umbrella policy) seems appropriate given most retirees’ total dependency on their remaining assets. Disability insurance in retirement seems unnecessary. Long-term care insurance… who the hell knows. To NOT have it leaves one vulnerable to a catastrophic healthcare event. To have it exposes one to big premium adjustments.

I’ll punt on that one.