Why Doesn't the Rule of 100 Fit Every Retirement Plan?

There is no shortage of rules of thumb for your retirement, but following some of these rules of thumb could spell disaster for your retirement. Today, we continue the second of our four-part series on the rules of retirement and what you can learn from these rules. Today, we're going to focus in on the rule of 100.

How much risk should you be taking with your portfolio when you step into retirement? Hey, I'm Casey Weade, CEO and founder here at Howard Bailey Financial, also certified financial planner practitioner. And we're here discussing rules of retirement, rules of thumb on retirement. And if you have any questions throughout this video, drop them right down in the comment section.

I'll be sure to answer each and every one of those. And I love getting content ideas from you. So if you have a video that you want me to produce, drop that idea down in there and I'll see if I can't create some content just for you.

Now, we're talking about rules, rules of thumb in retirement. Last time, we discussed the rule of 4%, the 4% rule or the withdrawal rate rule. What is the 4% rule? Well, go back and check out that video, check out the link, make sure you dig into that before you jump into this video.

Today, we're talking about the rule of 100, which is really a concept of how much risk that you should be taking in retirement. And this is immensely personal as we are about to find out here. Now, when we talk about the rule of 100, it is basically this, putting a percentage behind it, and that's how much you should have in fixed income.

Quite often, most often, when we're talking about that percentage of the portfolio, you're 60 years old, 60% should be fixed income. Most often that's referring to bonds. It could be bonds, it could be treasuries, it could be money market, it could be cash.

Some might include annuities in there. This is the lower risk portion of your portfolio. And then if you're 60, the other 40% of your portfolio should be allocated to most often that's equities.

But that could be stocks, it could be alternative investments like real estate, maybe you're leveraging options. That's the riskier portion of your portfolio. Now, how much should you allocate to each? Now, let's talk about conventional wisdom and some of the latest research and what that tells us.

So this is what conventional wisdom tells us. We have over here on our x-axis, we have our timeline of, let's just call it life. So this is our lifeline.

And let's say this right here, this little asterisk, that's going to be our retirement date. So this is our retirement date. And this piece over here is going to be our allocation to fixed income or let's call them bonds.

So we have our bond allocation over here. And early on in our lives, hey, we're just born. We shouldn't have anything in fixed income, right? So we should be down here on that fixed income allocation.

But traditional wisdom tells us that every year we should be increasing that allocation to fixed income by 1%. And with our 65, we should have 65% of our assets in fixed income. And that should increase every year.

You might see this happening in your 401k in target date retirement funds. So you pick that target date retirement fund that says 2040, 2035, and then they're just automatically increasing your allocation of fixed income every single year, not just when you step into retirement, but every year after that, while you're in retirement, if you're continuing to use that same target date fund. Now, some of the latest research is telling us to do something different.

Some of the latest research that's been conducted by Michael Kitzes over in the Kitzes blog, they have a great article on this research, and they talk about something called a bond tent that goes against that conventional wisdom. What they're now seeing provides even better results or increases your odds of not running out of money in retirement is that as we approach this retirement date, we start to rapidly increase our allocation to fixed income at a faster rate in those first 10 to 15 years prior to retirement. And then we spend that down first until we hit an equilibrium at about a 40-60 mix.

So we're spending down our fixed income and getting back to a point that's providing much higher levels of risk and much better growth potential than what we would have had if we followed that conventional wisdom. And there's a couple of things that's happening here. One, the reason that you're spending down that fixed income first is it's guarding you against something called sequence of returns risk, because we both know, just like fixed income shouldn't follow a linear line, the market doesn't follow a linear line either.

Those equities, those stocks that you have, they're going to go through bad years. They're going to have good years. They're also going have bad years.

And if you're taking income from that portfolio during those volatile years, then when the market's down, you're now violating that number one rule of investments. You're supposed to buy low and sell high. And if you're still taking income in retirement from a portfolio that's doing this, you're violating that rule, increasing your risk of running out of money in retirement.

We talked about that 4% rule in our last video. And that 4% rule is saying, well, you're just going to take this portfolio of 50-50 stocks and bonds. You're just going to indiscriminately take income at 4% per year out of all of those different holdings.

What's going to happen? You'll inevitably be violating that rule as the market goes through its ups and downs. So how can we increase our odds? We can start to put together a real retirement income strategy, which is what you should be doing when you're within five, 10 years of retirement. Now, the with these rules of thumb is that can be really helpful for someone that's 30 years out from retirement.

You're 30 years out from retirement, then you don't really know what kind of tools are going to be available, how much income you're actually going to need. So you follow some of these rules of thumb. This is one I think you could argue you probably shouldn't be following at all.

The 4% rule can really help you figure out how much you need to save for retirement in general terms. But this one over here, a good argument should be made that a 30-year-old that's 40 years from retirement, they might not need or want anything allocated to equities. Should a 30-year-old really have 30% of their portfolio allocated to bonds or fixed income? I think it's a good argument to say that's not the case.

And you might also say, well, Casey, when I'm 85 years old, I shouldn't be taking on that much risk. That's an old conventional wisdom. However, the reality is you can take on more risk because your retirement horizon isn't as long.

Going back to that 4% rule, we saw that you could take more out of your portfolio if you had a shorter time horizon. Well, you can also take on more risk if you have a shorter time horizon. And that's what that latest research is showing us.

Now let's take it a step further and look at a couple of different scenarios. Let's say that we're talking about this stock bond mix. This is what I like to call our risk triangle.

And we're looking at a couple here that have $1 million saved for retirement. So they have $1 million saved for retirement and they are 65 years old. What does conventional wisdom tell us we should do? It tells us that we should have $650,000 down here in fixed income or maybe in that bond world, whatever you're using that's low risk.

And then we have the other $350,000 that we should have allocated up here to stocks. Now let's apply a more unique scenario for them. They're not just 65 with a million dollars.

They have their own personal financial situation. And one of the key attributes of that is how much they're spending in retirement. So let's say that they are spending $25,000 per year in retirement.

And here's something I want to point out. There's three points on the triangle. Three points on the triangle, three purposes for allocating dollars in these two different areas.

Down here in the bottom, we have these two points. Why do we need some dollars that we can get to in case of emergency or in the case of a market downturn? So down here, we are solving, we're allocating to bonds because we might have an emergency. If we have everything allocated to equities and there's an emergency, well now we might have to violate that number one rule of investment.

So we need some dollars we could go to for extra liquidity in the case of emergency. Then we have income needs. We're meeting an income goal, say of $25,000 a year.

You might want to have some certainty around the first five years of income needs being met. Maybe it's a 10 year, maybe it's 15 year. You might be creating a bond ladder.

You might be using an annuity to guarantee income for a certain period of time. You have all of these different scenarios that you might be using. These dollars are putting these dollars down in this world.

Let's say that in this scenario, they want to have 10 years of income needs covered with fixed income. So they're going to create a bond ladder with $250,000. Maybe it's $200,000.

But let's just say we're talking about nice round numbers here. We're not talking about the specific strategy that we would actually implement. But let's say they allocate $250,000 here to cover them for the first 10 years roughly.

Maybe it's 12, 13, 14, 15 years. But let's say they allocate $250,000 here and they want to have 12 months set aside as an emergency fund. So they have $25,000 set aside in that emergency fund for that purpose.

$250,000 over here to satisfy the first 10 years or so of income needs. Now they have $275,000 that they've allocated down here in that fixed income world, in that world of bonds. And they have another $725,000 allocated up here in their equity portion or that at-risk portion, the higher risk portion of their portfolio.

If we take a different scenario and say we have someone that's spending $45,000 per year. If they're spending $45,000 per year and we allocate assets with the same basic principles, we're going to allocate $45,000 over here for our overflow emergency fund or emergency dollars. We have another $450,000 that we're allocating over here to satisfy that first chunk of retirement needs.

So altogether we have $495,000 allocated to bonds and we have $505,000 allocated to equities. So we have about a 50-50 mix over here in this scenario. We have about a 70-30 mix over here in this scenario.

None of these scenarios align with that rule of 100 because it's unique to your own personal circumstances. As we can see in each and every one of these scenarios, you may also have a higher risk tolerance and want to over-allocate to equities. You may have less of a risk tolerance and allocate more down there to that world of fixed income.

So these rules of thumb, they're helpful on the way to retirement, but when you get close, if right now you find yourself within 5, 10 years of retirement, call our team right now so that we can build you your own asset allocation mix and show you what your different options are. We'll walk you through two to three different options that could potentially put you in an even better place than you are today. Call the number on your screen right now to schedule a complimentary personal financial review no matter where you are in the country with one of our financial planners.

Now make sure you check out our next video as we're going to be diving into the 10% rule.