Best way to allocate cash in a $1.4 million retirement portfolio

Both of us are relatively conservative investors, though we don’t mind the “usual” ups & downs on the markets. After all, we survived gracefully the last recession of 2008-2009. We roughly spend about $55,000 per year but we want to spend more, by traveling abroad, and enjoying life a bit more than what we have been doing for the past four to five years.

Today, I manage seven different accounts: a self-directed non-registered joint margin account, two RRSPs, two LIFs and two TFSAs. In total, we have over $1.4 million in investments and here’s the breakdown:

Jim and Judy’s goals:

1. Allocate cash in all accounts to safe securities, preferably dividend stocks
2. Create a SWAN portfolio management (Sleep-Well-At-Night)
3. To “mostly” live off dividend-paying stocks and fixed income securities
4. To stop looking “daily” at charts, and look at our portfolios on a monthly or quarterly basis only, while rebalancing when needed.

Jim and Judy’s concerns:

1. Low yield on fixed income
2. Too much cash in all accounts, and don’t know where to allocate it.
3. Don’t know if I should be using ETFs or stocks to rebalance all the portfolio in major sectors: financials, industrials, etc.
4. Not too fond of Robo-advisors since we would have to sell all of our stocks and securities, and transfer the cash to ETFs. Too much tax on capital gains!
5. Do not want to pay 1.5% yearly fees for a financial advisor who will talk to us only two to three times a year.

After nine years of (mostly) upside markets, I don’t trust it anymore, yet I have too much cash. How and where to allocate it? And how do I adequately rebalance all the different accounts using 60% to 70% stocks/ETFs and 30% to 40% fixed income as my asset allocation?

Even though we are not in despair and are doing quite well, if you think we could benefit from some sort of advice and tips, then would you have the time to take a look at our situation?  

—Jim and Judy in Kitchener, Ont.

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An expert’s answer

A: Alright, Jim and Judy. If I am hearing you correctly you’re looking for safe, worry-free investments, where you can live off the interest and dividends and you won’t have to spend any of your capital. You consider dividend stocks as safe and you don’t really like today’s GIC or bond rates. Got it!

Your final two questions relate to asset allocation, or in simple terms, how much money should you have in the stock market and how much in cash, GICs, or bonds (fixed income)?

I modelled your situation to help me get a better understanding of what you have and where you’re going.  As you know you’re in excellent financial shape.  You’ve said you would like to spend $50,000 to $55,000 per year.  After tax, your CPP and OAS pensions come to about $25,000 per year so that means you’ll only need to draw another $25,000 to $30,000 from your investments.

READ: How to retire at 55 on $55,000 a year

You have $1.44 million! Simple math shows you only need to make 2 or 3% to live off the interest.

Without meeting and getting to know you, I can only provide suggestions based on what you have written, but I’d like to suggest that you allocate more money to yourselves. Why not allocate $10,000 per year to travel and another $10,000 per year to entertainment to start?  I’ve built those suggestions into your asset allocation.

Let’s review asset allocation and risk.

The financial industry and most people seem to define investment risk as volatility, i.e. if investment values move up or down it’s considered risky, and the more investments move up or down the riskier they are.

Why is volatility risky? On its own, it isn’t. Volatility becomes risky when combined with withdrawals. Why would you make a withdrawal when markets are down? Because you need the money or you’re scared and everything you hear is telling you to sell your investments and go to cash.

In my opinion, you need to identify two things when determining your risk tolerance: your natural comfort zone and your income needs.

Jim and Judy, your first step in determining your asset allocation is to complete this 11-minute financial behavioural assessment which will align your natural comfort zone with an investment mix.  You will find the results on page five of the report you receive immediately after completing the exercise.

The next step is to determine how much money you’ll need to draw from your account over the next, say five years, and allocate that money to fixed income. The idea is that if the stock market drops in value you’ll have a five-year bridge to walk across as you wait for the markets to recover.  Note that if you stick to individual stocks, some stocks don’t recover.

You’ve suggested that you want to get to about 30 or 40% fixed income. Where does that number come from? What is the purpose of 30 or 40% cash? Right now you have $388,000 in cash or 27% of your portfolio.

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I think you’re going to need about $50,000 a year from your portfolio each year. Working with a five-year bridge means setting aside $250,000 in fixed income. If you only had one investment account this would be really easy, but nobody has just one investment account, so you have to figure out which accounts you’re going to draw from, how much, and when.  Once you have that then you can figure out where to keep the fixed income.

The question these days seems to be “do you draw from your RRSP first or non-registered first?”  I haven’t found a rule of thumb for this one yet; there are a lot of variables.

I modelled your situation and found that you’re best to draw from your RRSP/RRIF before your non-registered account, but there isn’t much difference. I ran a number of solutions based on your current asset mix, dividend stocks at 6% with a 3.8% dividend yield, and cash at 1%.

If you both live to age 90 there is no difference between drawing from RRSP or the non-registered account first.  Sometimes the early RRSP withdrawal is favoured if a spouse passes early because the surviving spouse can no longer split income. This didn’t occur in the model I ran for you.

The RRSP withdrawal first solution is favoured with the five-year bridge model. Think about what will happen if you draw from, and maintain, $250,000, in a non-registered account. The interest on the $250,000 is not tax friendly, you’d be selling your equities in up markets to replenish the $250,000 of fixed income, and the percentage of fixed income relative to equities would increase over time. All of these transactions are better suited inside your RRSP/RRIF and you could keep your equities in a non-registered portfolio, which are more tax friendly.

As your baseline asset allocation plan, I’d suggest starting with $250,000 of fixed income, or 17% of your portfolio, rather than the 30 or 40% you suggested.  Then refer to the results of your financial DNA and adjust accordingly.  Taking these two factors together will give you the minimum fixed income you need for your asset allocation.

You’ll see in the model that you’ve got a successful retirement with your current mix of 27% cash. You could likely be 40% fixed income or more and still be successful. You may not leave as large of an estate but does that matter? What is important to you? Keep pushing to make more money, move more to safety, or a combination of the two?

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Once you know how much money goes to fixed income you can focus on the investment vehicles, which are generally cash, GICs*, and bonds. You might have one year of cash in the bank and set up a GIC ladder so that you have a two, three, four and a five-year GIC and each year buy a new five-year GIC as the two-year goes to cash. Alternatively, you can use a bond fund or corporate class bond fund.  I tend to favour the bonds because I like that you can cash them in at any time.

You asked about how to simplify things. My suggestion is to move to a couch potato type portfolio that is often written about in MoneySense.  If you want to continue trading stocks, why not just focus on some of the larger Canadian companies that you’re already working with. You may find that by using ETFs or mutual funds it will be easier to invest your cash. It will also be a portfolio your wife will be able to manage should the need ever arise. Another good reason to simplify.

I hope you found this helpful or it at least made you think about a few things in a slightly different way.

Allan Norman, M.Sc., CFP, CIM, is a financial planner with Atlantis Financial Inc. 

This commentary is provided as a general source of information and is intended for Canadian residents only. Allan offers financial planning and insurance services through Atlantis Financial Inc.

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