Learn To Invest
Stocks Special Reports LICs Credit Funds ETFs Tools SMSFs
Video Archive Article Archive
News Stocks Special Reports Funds ETFs Features SMSFs Learn
About

News

Retirement bucket basics

Matthew Coffina  |  26 Jul 2022Text size  Decrease  Increase  |  
Email to Friend

One of the most common requests Morningstar StockInvestor editor Matt Coffina receives from his subscribers is to provide guidance on asset allocation. In the most recent issue of the newsletter, he spoke with Morningstar's director of personal finance Christine Benz about the bucket approach to retirement investing. Below is an excerpt of that interview.

Matt Coffina: Let's start with the basics. What is the bucket approach and how does it differ from other common asset allocation philosophies?

Christine Benz: The bucket approach is mainly useful when setting up your retirement portfolio. It can be a helpful overlay, no matter what strategy you're using for selecting individual securities. The basic concept, which was developed by financial planning guru Harold Evensky, is that retirees can benefit from holding a cash component ("bucket 1") alongside their long-term stock and bond portfolios.

Having those liquid assets--enough to supply one or two years' worth of living expenses--can prevent retirees from being forced to sell any of their long-term portfolio holdings at depressed prices. And, of course, holding some cash can also provide peace of mind.

In the model portfolios I've worked on, I include two "buckets" in addition to cash: one for bonds and other assets appropriate for intermediate-term horizons, and one for stocks and other truly long-term assets.

The advantage of having three buckets--cash (bucket 1), intermediate-term assets such as bonds (bucket 2), and long-term assets like stocks (bucket 3)--is that a retiree can readily see which parts of the portfolio have appreciated the most and could be pruned for living expenses.

Coffina: So how does this work in practice? If an investor withdraws her living expenses from bucket 1, how does that bucket get refilled?

Investing Compass
Listen to Morningstar Australia's Investing Compass podcast
Take a deep dive into investing concepts, with practical explanations to help you invest confidently.
Investing Compass

Benz: The devil is in the details! First, what you're not doing is constantly moving money from bucket 3 (stocks) to 2 (bonds) to 1 (cash). That's too complicated and too much work. Nor are you spending sequentially through the buckets--cash first, then bonds, then stocks. That could leave you with a stock-only portfolio when you're 80, which is not what most retirees want.

I recommend retirees spend from bucket 1 each year and then replenish the cash as it becomes depleted using a combination of income from stock dividends, interest on bonds, and rebalancing proceeds.

Matthew Coffina is the editor of the Morningstar StockInvestor newsletter.

© 2022 Morningstar, Inc. All rights reserved. Neither Morningstar, its affiliates, nor the content providers guarantee the data or content contained herein to be accurate, complete or timely nor will they have any liability for its use or distribution. This information is to be used for personal, non-commercial purposes only. No reproduction is permitted without the prior written consent of Morningstar. Any general advice or 'regulated financial advice' under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), or its Authorised Representatives, and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information, refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). Our publications, ratings and products should be viewed as an additional investment resource, not as your sole source of information. Morningstar’s full research reports are the source of any Morningstar Ratings and are available from Morningstar or your adviser. Past performance does not necessarily indicate a financial product's future performance. To obtain advice tailored to your situation, contact a licensed financial adviser. Some material is copyright and published under licence from ASX Operations Pty Ltd ACN 004 523 782. The article is current as at date of publication.

Email To Friend