Case Study: 60 Years Old, Lots of Cash, No Portfolio – The Portfolio
Yesterday, I went over the income projection of Dave’s $1 million portfolio that “should” last him for the rest of his life. Today, I want to go over a few portfolio options to generate that income.
As I am no where close to being a retirement expert, my investment knowledge for the years during retirement is limited. However, here is my opinion on the matter.
If it was me with $1 million in cash, with a very low withdrawal rate, I would have a lower equity allocation than the suggested 50/50 split for greater capital protection. Perhaps it’s my fairly conservative nature, but capital preservation is a high priority when the portfolio is your sole source of income.
But say I did go for the suggested 50/50 equity/bond split, what would I invest in?
As the purpose of the portfolio is a combination of capital protection and income generation, I would invest the equity portion in high quality dividend paying blue chip equities, high quality preferred shares and perhaps some exposure to international indices/dividends for diversification.
As it seems that Dave doesn’t have a lot of investing experience, it may be best to stick to ETF’s as it reduces the complexity of choosing individual stocks. Here are some examples of quality income producing ETF’s:
- Claymore Canadian Dividend and Income Achievers ETF (CDZ) – This ETF follows the Canadian dividend achievers list which includes stocks which have a strong track record of increasing their dividends over the years. The downside of this ETF is that the MER if fairly high (0.60%) but can be avoided if mimic their holdings via individual stock purchases.
- Vanguard Dividend Appreciation ETF (VIG) – This ETF has a MER of 0.28% and covers U.S stocks that have a track record of increasing dividends over time. Note that the higher the foreign dividend income, the higher the income tax.
- Claymore S&P/TSX Canadian Preferred Share ETF (CPD) – This is the only ETF that I could find covers the Canadian preferred share market. It’s has a MER of 0.45% with most of it’s holdings coming from the financial sector (85%). Preferred shares pay dividends (low taxation) on a quarterly basis, offer the value of higher priority (and yield) over the common share dividend. However, the downside is that they generally thinly traded and capital appreciation is not as great as the common share.
The Fixed Income
Having a higher fixed income allocation in your portfolio will reduce the volatility while generating a steady income stream but will limit the potential gains. With all the various fixed income instruments out there, what would I pick?
Personally, I would create a bond ladder with government bonds that mature at the various years/rungs. This will give you interest rate diversification providing you hold all the bonds until maturity.
But if I wanted to keep it really simple, I would pick ETF’s that cover a combination of real return bonds, short term bonds and corporate bonds with relatively short duration to reduce interest rate risk. Long term bonds, on the other hand, have longer durations along with a higher correlation with equities.
iShare’s offer various bond ETF’s at a relatively low cost.
- iShares Canadian Short Bond Index Fund (XSB) – This covers the short term bond index with a fairly low MER of 0.25%. All bonds within this index have maturities of between 1-5 years.
- iShares Canadian Real Return Bond Index Fund (XRB) – Real return bonds are government bonds that adjust to inflation on a regular basis.
- iShares Corporate Bond Index Fund (XCB) – This ETF will cover the Canadian corporate bond market with maturities of at least 1 year with a relatively low duration. Corporate bonds generally have higher yields. XCB pays semi annually with a MER of 0.40%.
So there you have it, if I was approaching retirement with $1 million in cash, my priorities would change from capital growth to capital protection and income generation. Based on my mock portfolio above and today’s prices, it would generate a 4.5% yield which is more than enough to meet Dave’s expenses without even touching the capital.
But what if Dave wants to buy a new car or other big item in the future? I would suggest to save for it like anything else. Perhaps even withdraw the difference between what the portfolio will allow and regular expenses, then deposit it into a TFSA mad money account. What’s retirement without a bit of fun?
So what are your thoughts? What kind of retirement portfolio would you come up with if you had $1 million in cash?
As I mentioned above, I am not a financial advisor. The above is not meant as recommendations but merely for informational purposes only.