Should Your Simple Retirement Portfolio Be More Complicated?

Key Takeaways

• In a minimalist portfolio, you can get away with three holdings: equity exposure, fixed-income exposure, and cash.
• Some additional investments for people in retirement would include short-term bonds as well as some Treasury Inflation-Protected Securities.
• Holders of actively managed mutual funds should plan to have a few more holdings. Think about using some index funds alongside of active funds.
• If you think about managing a whole portfolio in retirement, give yourself a little bit of wiggle room to specify where you go for those withdrawals on a year-to-year basis.
• One advantage to having multiple holdings is the opportunity to do tax-loss selling.

Susan Dziubinski: Hi, I’m Susan Dziubinski with Morningstar. At Morningstar, we’re big believers in taking a simple approach to investing in retirement because no one should leave a portfolio of 23 different funds and a handful of stocks to their heirs to have to deal with. But can you be too minimalist in retirement? Joining me to weigh in on that topic is Christine Benz. Christine is Morningstar’s director of personal finance and retirement planning, as well as host of The Long View podcast and author of a new book that publishes in September, How to Retire: 20 Lessons for a Happy, Successful, and Wealthy Retirement.

Nice to see you, Christine.

Christine Benz: Hi, Susan. Great to see you.

What Are the Bare Minimum Investments in a Simple Retirement Portfolio?

Dziubinski: You’ve actually created a series of what you’ve called minimalist retirement portfolios, and viewers can access those on Morningstar.com. What’s the bare minimum of investments in your mind that someone should be bringing into retirement?

Benz: Well, I think you could get away with three holdings. That would be a total world stock market index or ETF that would consist of roughly 60% US equity, 40% non-US equity. That’s your equity exposure. Some sort of a total bond market portfolio, and index funds could serve as your fixed-income exposure. It’s going to include government bonds as well as corporates across the maturity spectrum. And then I think cash is mission critical in retirement to help cover you in a year like 2022 when the stocks and bonds went down at the same time. I think that’s the bare minimum number of constituents. Arguably, you could have the US and non-US stock pieces be separate funds, but that global portfolio can let you skinny it down even further.

Why Retirees Could Want More Holdings in Their Portfolio

Dziubinski: Let’s talk about some key reasons why an investor might want to have a few more holdings in retirement. At the top of your list is actually some extra diversification that additional holdings might provide. What additional investments would you add from a diversification perspective in addition to the ones that we’ve already discussed?

Benz: So, there are two main ones, and they are in that fixed-income sleeve of the portfolio. The first one would be some short-term bonds. And the idea is that if you encountered a really bad scenario where, say, 2022, an environment like that stretched down for three years or something like that, well, the idea would be that if you had spent through that cash piece, you’d have your next-line reserves in place that you could tap. So, I would add short-term bonds to the fixed-income portfolio. You can use just a simple short-term bond index fund or an actively managed fund. Keep the complexion of that portfolio pretty high.

And then I would also think about adding some Treasury Inflation-Protected Security exposure. The idea is that if you have a total bond market index or even a short-term bond portfolio like I just talked about, that is going to be not inflation-protected. So, you will find that the purchasing power of that portfolio will dwindle over time. That’s why you would want to add some TIPS to the portfolio as well. In fact, some TIPS enthusiasts might say, “Well, forget the total bond market index. Just hold TIPS.” I suppose you could do that, but you are also picking up some interest-rate-related volatility there as well. So, I would bolt on a TIPS fund, maybe a short- and/or intermediate-term TIPS fund in addition to the constituents that we talked about.

What Should Holders of Actively Managed Mutual Funds Consider?

Dziubinski: You also think that holders of actively managed mutual funds should plan to have a few more holdings. Why is that?

Benz: I think it’s mainly because the active managers, the good ones, are typically going to be picking their spots that they might have a part of the market where they like to do their shopping, and they’re not trying to cover the waterfront with their portfolios. So, if I have, for example, an Oakmark Select in my portfolio or a good Primecap fund, probably I also want to think about augmenting it with a total market index just to give my portfolio that broad market exposure that I’m not necessarily getting with those stock-pickers’ funds. So, definitely, to the extent that you have active funds, think about using some index funds alongside of them.

Surgical Withdrawals and Managing Your Retirement Portfolio

Dziubinski: We’ve talked in the past about making withdrawals from your portfolio in retirement, and you’ve often referred to something called surgical withdrawals. Let’s talk about that and why that might be another reason a retiree might want to actually have a few more holdings in retirement. First, explain what surgical withdrawals are and why that might be something to be thinking about when you’re building a portfolio in retirement.

Benz: I think a superpower that retirees have is the ability to pick and choose where they can go for cash flows on a year-to-year basis. That’s not a luxury that you have if your portfolio is in, say, a balanced index fund. As great an investment as that can be, you can’t say in a bad year for equities, “Hey, leave my equities alone. I just want my bond withdrawals this year. You have to take pro rata shares of stocks and bonds.” And so, if you broaden that out and think about managing a whole portfolio in retirement, you really do want to give yourself at least a little bit of wiggle room to specify where you go for those withdrawals on a year-to-year basis.

So, in a year like 2022, you probably are pulling from cash to leave your stocks and bonds undisturbed. In 2023, you probably want to be pulling from US large growth, right? You want to pull from whatever looks the most opportune. So that is, I think, a reason to maintain at least a few discrete holdings in the portfolio as you get into drawdown mode, just to give yourself the flexibility to pick and choose where you go for those withdrawals on an ongoing basis.

Tax Considerations for Retirement Investors

Dziubinski: And then last but not least, do you think there may be tax reasons to consider when it comes to having maybe a few more holdings in retirement? Talk about that.

Benz: I would say that the ability to diversify and take those surgical withdrawals to me are more important reasons. But one advantage that the person with multiple holdings has is the opportunity to do tax-loss selling, for example, in a year like 2022. If you have all of your holdings in just a single fund or a couple of funds, you’ll just have fewer opportunities to benefit from tax-loss selling. Certainly, that’s an advantage that the individual stockholder has relative to someone who is holding mutual funds, where you probably will be able to identify candidates for tax-loss selling. You won’t necessarily have that if your whole portfolio is broadly diversified mutual funds. Again, I’m not sure that this is a good enough reason to hold individual stocks, but it is a consideration and potentially a benefit to having more individual holdings in the portfolio.

Dziubinski: So, less is often more, but there are exceptions.

Benz: Exactly.

Dziubinski: Thanks for your time, Christine.

Benz: Thank you, Susan.

Dziubinski: I’m Susan Dziubinski with Morningstar. Thanks for tuning in.

Watch Do You Need More Than 3 Buckets? for more from Christine Benz.