The Thinker

The Plan

“Investment is an effort, which should be successful, to prevent a lot of money from becoming a little.”

Fred Schwed Jr.
“Where are the Customer’s Yachts?”, 1940
From the preface to our financial plan

Back in February, after attending a retirement seminar I became uncomfortably financially awake. As a result, my wife and I decided to spend some money making sure that we were not going to be eating dog food in our retirement. The result finally arrived yesterday: a detailed financial plan for the second half of our lives. I thought I would share some of the insights in our financial plan. While the strategies recommended were tuned for our particular situation, many of them might apply in your particular case. In the process of putting together a financial plan, I learned to become specific about my hazy goals for the future. I also learned a lot from the planner on what to do and what not to do when planning for the future. You may find this valuable also.

Please understand that I am not the typical case. I am a career federal civil servant, grade GS-14, which is one stop below the top rung in the general schedule. I also have more than twenty years of federal employment. I am blessed with steady employment, plus pension and health benefits that many in the private sector no longer have. I start out with a good financial base.

Let me say a bit about our financial planner. Jerry lives locally and makes his living from a combination of financial planning and financial planning evangelism. (I met him at a retirement seminar.) He is a member of the National Association of Personal Financial Advisors. While not every NAPFA member is necessarily competent, I do feel better for hiring a NAPFA affiliate. First, since he is a member I know he is not trying to sell me securities for which he has a personal interest. NAPFA members are fee-only advisors. Nor does he buy or trade securities for me. In short, he has no incentive to work against my interests. This, plus the financial acumen that I lack, were my two essential qualifications for a personal financial adviser. While I can balance my checkbook, my eyes glaze over when I try to competently select from the thousands of stocks, bonds and securities out there. I cannot begin to make an informed judgment on whether one security is better than another is. I have neither the aptitude nor the interest to become financially savvy like Warren Buffet.

The good news is that our financial strategy to date has been good. It has not been great, but at least it has been good. Our net worth is approaching a million dollars. With many families, the bulk of their net worth is in their house. If the market goes down much of their net worth disappears. With over $400K in investment and retirement assets, our financial base is somewhat insulated from housing price fluctuations. In addition, since our only major liability is our mortgage (down to about $120K) we have an excellent net worth. I was fortunate to learn prudent money management basics from my father. Having practiced it for more than twenty years, this strategy alone has proven very valuable. If you can live within your means, not carry a credit card balance and escrow to pay for most major expenses and bills, you will naturally move you toward the top tier of financially stable families. You win simply because the vast majority of Americans cannot discipline their financial lives. Many of these families are awash in debt.

After we told Jerry our risk tolerance (moderate), he looked for appropriate securities. His strategy was to put us into funds that were less likely to be turbulent but had consistently beaten the market. Since I am a federal employee, he told me to continue to invest in their version of a 401-K, the Thrift Savings Plan. However, he recommended that I shift 50% of my assets and allocations into the “G” (government bond) fund. This would ensure the bulk of my retirement assets would grow but would be insulated from market shocks. He also recommended putting 25% into the “F” (fixed non-governmental bonds) fund and 25% into the “S” (Small Cap) fund. I was a bit surprised by this advice, since it meant getting out of the “C” (Commercial) fund, the blue chips, in other words. He does not see adequate future growth coming from blue chip funds.

My wife has two 401Ks from previous employers. For her funds, he recommended rolling over the money into a Vanguard Fund Group IRA. For one fund he recommended 40% be placed in their energy fund, 20% in the commercial real estate fund, and 40% in their global equity fund. Jerry believes that the United States, due to deficit spending, has overextended its credit and it is likely to show up soon as a financial shock or at the very least, in the form of higher taxes in the form of capital gains.

He also had this interesting and very sober statement:

“It is difficult to predict how much Social Security will provide you when you retire given the questionable long-term status of this program. Consequently, we advise you to keep your own retirement savings contributions at the maximum level throughout the remainder of your professional work careers.”

Since Jerry believes the bulk of growth in the future will come from overseas where governments know how to live within their means, he believes we should invest strongly in quality overseas mutual funds. For her other 401K, he suggested my wife place $30,000 in Vanguard’s health care fund, and the rest in the global equity fund. He is convinced that with the retirement of the baby boomers the demand for health care services will only increase. Putting her money into a company like Vanguard also offers a lot of flexibility to move funds around in the future, since they manage hundreds of funds.

I have a small IRA left over from days when I thought I needed one. His recommendation was to move it from my Wells Fargo Discovery Fund into a CGM Focus Fund. Since my wife is currently in a part time job with no benefits, he recommended that we set up an IRA for her and put the maximum of $4000 a year into it. He recommends the Bridgeway Small Cap Value Fund IRA.

He says to “hold” a number of our existing accounts and funds. He says to keep the savings bonds and spend them first when our daughter goes to college. He also said to hold the USAA Income and Money Market Funds and to keep contributing to them. As for my USAA Growth Fund, he said USAA does much better with their bond funds than their stock funds. He recommended moving this money into a Mairs & Powers Growth Fund instead. He said my USAA S&P 500 Fund needed to go too. He does not like index funds and the S&P 500 in particular has been underperforming the market. He suggests putting it in the T. Rowe Price Real Estate Fund instead.

Our financial plan came in a thick binder full of charts and statistics. He used Morningstar Research to select funds and showed us all the ratings and rankings and the rationale that he used. He even ran Monte Carlo simulations on our plan. He priced everything in today’s dollars, so I could quantify the information. He erred on the side of caution, assumed a 4.5% inflation factor and 8%-9% in annual earnings.

He also looked at other aspects of our financial life. He recommended I maintain a $500K term life insurance policy until I reach age 60. That way in case I died, my wife could pay off the mortgage. He also strongly pushed me to get an umbrella insurance liability policy. It would cover expenses in the event that I or some member of my family was sued. He said skip the long-term care insurance until I was 64 and a half years old. My federal disability insurance is adequate and he saw no need for my wife to buy separate insurance, since at the moment her income is not crucial. He directed us to check our homeowner’s insurance to make sure we had sufficient replacement coverage. Moreover, should we need to pay for major expenses he strongly suggested we open a Home Equity Line of Credit. With the HELOC, should unforeseen expenses arise, we would not have to sell any of our investment assets. In addition, interest on a HELOC is tax deductible. Meanwhile, he recommended that we keep paying off the additional principle on our mortgage every month, but try to pay an extra $200 a month, rather than the $50 – $75 extra I had been paying. The goal is that when both my wife and I truly retire (for I plan to work part time after I retire from the federal government) we should be mortgage free. In addition, we need to update our will, maintain durable power of attorney statements and create advanced life support directives.

If we follow his plan then when I retire from the federal government at age 57 he believes we will have $115,000 in annual retirement income. This assumes I take a part time job paying $32,000 a year through age 63. When we “retire-retire” (no more part time employment) assuming a solvent social security system then there is a 100% probability of having $134,000 a year in after tax dollars per year, a 75% chance of having $146,000 a year and a “most likely” (average of the two) of $140,000 in retirement income.

All this is conditional, of course, on following the financial plan, a solvent social security system and his reasonable assumptions on inflation and fund growths.

Included in this scenario is $60,000 to pay for a round the world cruise that I asked for.

Barring nuclear war, I guess we will not be eating dog food.

(If you are considering a financial planner and want to consider my financial planner, send me an email and I will send the link to his web site. I do not want him to become overrun with customers, since he is very busy as it is. Also, I do not want my own service degraded.)


2 Responses to “The Plan”

  1. 12:56 am on September 4 2006, Tom said:

    Putting any money in a real estate fund right now seems like a horrible, brain-dead idea.

  2. 7:44 am on September 4 2006, Mark said:

    Tom, a Real Estate Investment Trust puts money into commercial real estate. I agree that putting money in short term housing stocks is not a smart thing. Stocks, of course, are long term investment and my financial adviser sees that this sector has been growing regularly, and predicts it will continue to grow.

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