Executive Summary
Financial planning is both a science and an art. To properly determine the viable asset allocation for each individual, their time horizon and life goals are given prime consideration. In this case, the near retirement couple would be suitable for investments that provide a fixed return. Since they expect to derive income from their retirement fund, it should likewise be able to create a positive fixed income stream. Meanwhile, the risk level of their fund should be at the low end. The couple does not have the chance to recover losses if any, as compared to when they were younger.
Lastly, as the market is driven by volatility, opportunities are created along the way. Thus, it is largely suggested that the couple take a proactive stance in managing their investments. This way, they would be able to reallocate their assets should the need arise and completely account for financial requirements that would come their way.
The Trudeaus’ financial plan should be in line with their time horizon and financial goals. Given that they are already ruminating about retirement, some of their assets have to be liquidated. In doing so, the cash flow generated from the sale of some assets have to be repositioned or reinvested in funds or securities that will provide a more stable form of income. The financial planner has correctly suggested that the couple should veer away from risky investments. Such would be the stocks, the growth fund, and the assets placed with an online broker. Given their age, they would have certain difficulty recouping losses for such kind of risky investments. Truly, they may be able to earn a lot, if the market would be positive, but the attendant risk is not suitable for their age and time horizon.
Meanwhile, since they have no children that depend on them, in analysing their financial plan, they would have more flexibility in selling off their real estate asset which is their house if the opportunity calls for it.
In Modern Portfolio Theory, it has been established that a combination of assets may decrease the risk of an individual without compromising the level of expected returns . Thus, in the portfolio of the Trudeaus, as the financial planner has suggested, it is appropriate to choose distinct and various types of investments, instead of pooling the money into one fund. In this case, should a fund or investment unexpectedly perform badly, then the couple’s retirement fund will not be totally wiped out.
Financial Analysis
Given the strategy outlined, by age 60, the couple would have a total of $1.52 million in their retirement fund.Forty three percent of their retirement fund would have come from the Index Fund TSA. Being tax sheltered, it is a very logical decision for the planner to allocate majority of the spouses’ cash assets into such investment.
Meanwhile, thirty percent of the retirement fund will largely come from the index fund. Such shall invest the fund in the published index. This investment, being diversified is considered of moderate risk. Due to the diversified asset class composing the index, the index fund has lower attendant risk. However, in an index fund, the 6.9% return is not guaranteed, but rather a conservatively optimistic view of the market. Should the market experience a downturn the unexpected loss will surely dent the couple’s finances.
Should however they consider retiring at age 67.5, the couple would expectedly have an a net worth of $2.96 million in cash. Such does not include the real estate asset, as this would be considered as a sunk cost for the couple. Although the couple may opt to sell the property should valuation seem attractive, they will be compelled to look for another house, which would make the option to sell quite far from their minds. Adding the value of their house and automobile to their retirement fund would not be feasible since these assets cannot be liquidated easily and would need to be substituted.
At a monthly expense of $10,000, the couple would require a total of $3,000,000 in retirement fund. Given that they opt to stop working at 60, then their retirement fund would fall short. The fund would need an additional $1.45 million. It would certainly be difficult for the couple to fill in such amount, given the short timeframe they have from the time of consultation to expected retirement.
On the other hand, should they choose to retire at age 65, the fund would still have an excess amount. They would have $863k more that may be reinvested or be given to their children.
Another option the couple can look into is to sell their home and invest the proceeds of the sale into the Index Fund TSA which provides the highest returns at 11% annually. However, even if they opt to sell their home and move into a smaller place, retirement at 60 years of age is still not feasible.
It can be gleaned from the financial calculations made that the ideal retirement age for the couple would be at 67.5. Given the longer amount of time that they would be able to have to prepare for retirement, the couple would be more financially secure in terms of funding their retirement.
However, in a case for instance wherein the couple deem themselves not being able to reach the ripe age of 85, then they can consider retiring likewise at age 60. If they think they would be able to live only until age 75, or 15 years after early retirement, their fund would only be short by $250k. Selling their house and reinvesting the sale proceeds in this case would be sufficient to cover the difference.
Meanwhile, at age 80 years, their fund would be deficient by at least $850K. Such is quite a big amount. Yet the deficiency may be supplanted by investing huge portion of cash into the TSA Index funds. Instead of allocating assets into the non TSA index fund, the couple may choose to simply put 75% of the assets into the former. The caveat however is that, they would be shouldering a larger amount of risk, which in their case is likewise non-feasible.
Recommendation
Thus, the best option for the couple is to retire at age 67.5. The additional 7,5 years will allow their savings to grow and their investment baseline to likewise increase nominally. As compared to retiring by age 60, the couple would have a higher principal at a later age, thus bigger possible returns.
Another option they could take is that they should constantly rebalance their investments. The 15 year period between retirement and their supposed ripe age of 85 is a sufficient time horizon that may present them with interest rate opportunities. For instance, should the Federal reserve choose to hike interest rates, then they could sell their CDs and bond fund holdings and repurchase similar investments with higher expected returns.
Crucial to financial planning is the chance to reassess the market periodically. This way, even if the couple is already of retirement age, they may still be able to maximize their wealth, and therefore, maximize enjoyment of their remaining years.
Appendix
Works Cited
Social Security Administration. n.d. https://www.ssa.gov/policy/docs/policybriefs/pb2007-02.html. 20 April 2016.
