I read Investment Moat’s article “9 Strong Points to Why I say, the Dividend Income Retirement Mindset is Not a Good Retirement Risk Management Model” with a lot of interest.
Investment Moat is right that having sufficient monthly income over many years (20 to 40 years) during retirement is a topic that bothers retirees like me a lot. The prospect of running out of money during retirement is a scary thought. He mentioned the use of Safe Withdrawal Rate method which is empirically proven. I will share some of my thoughts on the Safe Withdrawal Rate method.
Tri-O Retirement Plan is built on the premise of dividend income. In our Investment “O”, there is an income portfolio and growth portfolio. The income portfolio (which should make up 80% – 90% of the total Investment “O”) is supposed to provide dividend income to cover our monthly expenses. The growth portfolio (which is about 10% to 20% of the total Investment “O”) can help mitigate inflation by focusing on more risky and higher growth instruments.
Tri-O Retirement Plan mitigates the dividend income risks mentioned by Investment Moat’s articles with the following strategies.
a. Diversification
The income portfolio of Investment “O” should consists of multiple instruments. For eg, in my income portfolio, I have
i. Dividend Stocks, Equity Income funds and ETFs
ii. Individual Bonds, Bond Funds and Bond ETFs
iii. Individual REITS, REITS Funds and REITS ETFs
iv. Multi asset income funds
The above instruments are also diversified across geographies (Global, US, Europe and Asia) and during the accumulation phase, some of them are also bought across time (using Regular Saving Plans).
The above list may look like too many instruments and may become hard to manage. Fortunately, with today’s technology and online platforms, they can be pretty much on “auto pilot” mode.
Diversification helps in soothing out the ups and downs of different instruments. For eg, a bond fund which I have held for more than 15 years is showing decline in the monthly dividend in the last few years. Some of the REITs that I have held for more than 15 years have been steadily increasing their DPUs (distribution per unit). Some of the REITs suspended their dividend payment during the Covid period. The multi-asset income funds have been constant in their payout for the last 5 years that I have held them.
In our article Picking our own stocks, we covered that diversification could mute our potential returns versus picking our own stocks. Higher risk means higher returns. Diversification may be a necessary risk mitigation strategy for the normal investors like us who may not have the Midas touch of Warren Buffett or skills of a professional investor.
b. Headroom or additional coverage
Yes, dividend income does fluctuate and it may be important to provide some headroom in our planning. For eg, I designed the headroom for the dividend income versus my expenses to be 10%. In months that I have excess dividend income, the excess is either transferred to RESERVES “O” or plough back into investing into the income portfolio.
In the Investment Moat’s article and related comments, it was mentioned that there are retirees with 2x to 3x coverage. That is indeed admirable if it is achievable. These retirees can definitely enjoy a risk free retirement.
c. RESERVES “O” and/or cutting down Expenses
In Tri-O Retirement Plan, RESERVES “O” continue to play a role in the decumulation phase. When there is a financial crisis, the dividend income may go below the monthly expenses required and dipping into the RESERVES “O” may be required. Of course, before going there, we may need to trim off the good to haves in our expenses. For eg, we may have to forgo the annual or bi annual vacations that were part of the expenses during these period. During better times, excess dividend income from the headroom can be ploughed back to help replenish RESERVES “O”.
d. Growth Portfolio to take care of inflation
The decumulation phase of Retirement can take place over many years and over time, even if the dividend income remains constant, the purchasing power will be eroded by inflation. Therefore Tri-O Retirement Plan advocates that we should still have a growth portfolio comprising of growth instruments in our INVESTMENT “O”. Some of these growth instruments can be sold over time to purchase more instruments in the income portfolio to help increase dividend income to counter inflation.
Tri-O Retirement Plan is built with middle income employees in mind who may not be investment professionals. The Safe Withdrawal Rate Method, which is empirically proven to work as mentioned by Investment Moat, involves building a portfolio of stocks and selling 3% to 4% every year to fund the retirement expenses. For this method to work, we need to make sure that we build a good portfolio of stocks, manage and refresh the portfolio when necessary and have the emotional fortitude to choose what and when to sell every year to fund the retirement. This may or may not be a simple undertaking for most of us. The portfolio is supposed to perform well over many years.
No one can look too far down the crystal ball when we retire and we can only plan as much as we can. The bottom line is we need to embark on retirement planning whilst we are still economically active. In the event that the retirement income is still insufficient after we retire, we can continue to do some gig work to keep ourselves economically and socially active. This can help boost our retirement income.
TRI-O RETIREMENT PLAN is a simple way to help you get started on your retirement planning. Learn the FUNDAMENTALS and HOW TO GET STARTED. There is also a spreadsheet to help you CALCULATE your monthly savings and your project monthly income at retirement. You can check out our BLOGS on topics pertaining to retirement planning. Feel free to CONTACT US if you have any questions or comments.