For retiree Carol Klonowski, 59, portfolio management has become a 20-hour-a-week job. The former computer systems analyst attends free classes offered by her brokerage firm, Charles Schwab, makes regular stock trades from her computer, and reads up on analyses by financial advisers. She jokes to friends that she manages a small—very small—hedge fund.
Her efforts have paid off. Unlike the portfolios of many of her peers, Klonowski's investments have already recovered from their losses in 2008 and early 2009, partly because she started buying the stocks of large, dividend-paying companies including Johnson & Johnson and Kraft just before their shares came bouncing back.
Klonowski's strategy of managing her own investments is unusual among retirees. Many of her peers turn their money over to professionals or stick with funds designed to automatically become more conservative as they age. Target-date funds have become increasingly popular, with investors pouring $45 billion into them in 2009, according to Morningstar. But advisers say such tools can give retirees and soon-to-be retirees a false sense of security, and that successful investors are usually more involved in the decision-making process.
"I think they're horrible. I don't recommend them at all," says Dean Barber, president of Barber Financial Group in Lenexa, Kan., of target-date funds. He points out that many of these funds lost significant amounts of money in the recent downturn because they weren't invested conservatively enough for baby boomers nearing retirement. Vanguard's Target Retirement 2010 Fund, for example, fell 21 percent in 2008, before largely recovering in 2009. "If I'm a retiree within two years of retirement, would I expect that fund to lose over 20 percent? No way," Barber says. He adds that the expenses of target-date funds tend to be higher than those of index funds, since managers make allocation decisions. Here's what investment advisors recommend instead:
Get regular check-ups. "In the '80s and '90s, when people retired, they'd get an asset allocation developed and then forget about it because everything did so well," says Barber. But in today's volatile market, he says, if people don't regularly rebalance their portfolios, they're at risk for being too heavily weighted in stocks or bonds. If investors have too much money in stocks, they can lose a lot when the market drops. If too much is in bonds, they might not be able to keep up with inflation. Retirees are particularly likely to fall out of balance because they're no longer adding money to their accounts, Barber says. That's why he recommends reviewing retirement investments at least three times a year.
Know what you need. Retirees who want to become more involved in managing their portfolios should first decide how much money they will need to take out of their investments, advises Tim Courtney, chief investment officer of Burns Advisory Group in Oklahoma City. For example, someone with $1 million in his or her portfolio might plan to withdraw 5 percent a year, or $50,000. (Most people wouldn't want to withdraw a higher percentage than that, he says, because it doesn't leave much wiggle room for dips in the market.) With a 5 percent withdrawal rate, investors will need to put at least some of their money in stocks, because bonds—while safer—provide lower returns. On the other hand, a retiree who needs to withdraw only 2 percent of his portfolio, perhaps because he also receives income from a pension, can rely more heavily on safer bonds and certificates of deposit. "The withdrawal rate you require will tell you how much risk you need to take," says Courtney. Over time, he says, people usually increase the value of their withdrawals to keep pace with inflation.
Seek stability. Even retirees who actively manage their investments will want the bulk of their portfolio in a diverse set of investments that don't require much daily monitoring. "You should be setting up your portfolio in a way so you're not making constant changes," says Courtney. Adjustments and rebalancing, yes, but frequent stock and fund trades, no. "If you're very active in buying and selling asset classes, the odds are against you being able to time those right to make money [consistently]," he adds.
Courtney recommends that investors establish a core of investments that will keep their portfolios relatively stable as the economy fluctuates, diversifying through index funds with low management fees and steering clear of more complicated strategies such as funds that bet against, or "short," the market. Then, if investors are drawn to a specific sector of the market or to a particular fund, they can add that to their portfolio without threatening its overall diversification.
Value predictability. Monthly income funds, which aim to generate a consistent payout each month through a mix of stock and bond investments, can also be a smart choice for retirees, says Rob Williams, director of income planning at Charles Schwab. Other brokerage firms offer similar products, such as the Vanguard Managed Payout Funds and Fidelity Income Replacement Funds. Investing $100,000 in the Vanguard Managed Payout Distribution Focus Fund, for example, will yield an estimated $557 a month, according to Vanguard's website.
In addition, Schwab recommends income-oriented funds on its Income Mutual Fund Select List, including the Schwab Large-Cap Growth Fund, which has returned almost 4 percent over the last three months, and the Schwab Core Equity Fund, which has returned around 5 percent. Both of those funds are up over 40 percent for the year and carry expense ratios of around 1 percent or less. Making selections based on analysts' recommendations "offers a nice balance for investors who want to remain active but not spend too much time on it," says Williams.
Get emergency-ready. Retirees should also plan for emergency cash needs, Williams says, so they won't be forced to sell assets at a low point in the market. "If they have a dental [expense] or other large unexpected expense, then they might sell their stock portfolio and it's not the best time. They're letting the market control them as opposed to actively managing their portfolio so they have money that's there if they need it," he says. Williams recommends that investors determine how much to keep readily accessible in cash when making portfolio allocations.
As a money manager, Barber tries to look forward on behalf of his clients instead of dwelling on the past performances of funds, a common mistake people managing their own money tend to make. In 2008, for example, he began the year by focusing his clients' bond portfolios on inflation-protected treasury notes. But as it became apparent that inflation was less of a concern, he began to shift their investments into ultra-short treasury mutual funds, such as Vanguard's Short-Term Federal Funds. Then, as his team began to see an opportunity to make money in corporate bonds, he shifted investments into Fidelity's Floating Rate High-Income Fund, which buys debt from troubled companies. Being so nimble meant his clients' bond investments made money for the year, he says.
But don't forget to take risks. One temptation that retirees managing their own money need to resist is fleeing to safety. Even retirees in their 70s, who could live to be 100, should put 30 to 50 percent of their money in stocks, advises Susan Breakefield Fulton, founder of FBB Capital Partners in Bethesda, Md. Otherwise, she says, inflation can eat away at purchasing power. "If you're purely in the bond market, you're going to be able to buy less and less," she says. For investors who still feel shell-shocked from the downturn, it's not always easy to be sufficiently aggressive. According to a recent survey by Charles Schwab, more than half of adults believe there is likely to be another "serious dip" in the stock market before it improves. Asked about their retirement account goals, respondents said they wanted to grow and protect their savings, generate income to meet expenses, and avoid fluctuations in the market.
Klonowski, the retired computer systems analyst, managed to move past that fear, and she believes that's why her portfolio recovered as quickly as it did. "Everyone was trying to get to a safe place for money," she says. "I got a little lucky by taking on a little more risk than was comfortable." That kind of nerve might come more easily if you're at the controls.