Andy and I were talking about the problems with the concept of “financial planning” in the office the other day. Most of what passes for financial planning is a waste of time. Financial anything is bogus if you have no money. Clients want financial planning to give them a road map to retirement, but in many cases the road is washed out because the client has not built up enough capital to get to their destination in the first place. Real financial planning gives the client guidance on how to build up the capital that is required to retire. Here’s the short course in financial planning, which is my restatement and interpretation of the advice Andy received as a young man. I think it’s pretty darn good advice.
1. Save 15% of each paycheck you get, starting with your first job. That’s pretty simple. If you do it, you’re already halfway to your goal. It’s also a pretty sure path to your goal, as opposed to saving erratically or waiting until you are 55 and then panicking because you haven’t saved enough money. Sure, you might have to live like a college student for a little while after college, but those cinder block and board bookcases are actually kind of charming, don’t you think?
2. Invest for growth. Forget about getting rich rolling CDs or Treasury bills. It’s not going to happen. Don’t bother with bonds either. Bonds have two good uses: for income and to reduce volatility. If you don’t need income, skip them. If you really can’t live with the volatility of a growth portfolio, then use only enough bonds to settle it down to where you can sleep. The best strategy is just to ignore the volatility. It’s not the same thing as risk. Distract yourself by reading the sports pages. How ‘bout those Golden State Warriors!
3. Transition to a balanced account as you near the withdrawal phase. Notice that I didn’t say retirement! Many retirees don’t actually need to draw down their accounts. The habits of saving and growth investing become so ingrained over time that they have much more capital than they need. Studies do show, however, that in the withdrawal phase, accounts survive longer when the volatility is lower. This is your chance to add bonds to the portfolio. Pick a timeframe and transition. For example, you could move 15% of your equity holdings to bonds each year for five years. After the five-year period, your allocation might be closer to 44% equities and 56% bonds. The lowest-risk spots on the efficient frontier for a two-asset portfolio tend to be around 20-40% equities and 60-80% bonds.
I should modestly point out here that our Systematic Relative Strength accounts are ideal growth vehicles for purposes of item #2! But really, any growth portfolio that you continue to contribute to will get you on your way. If you’re a young person just reading this, you have no idea how much more financially secure your life will be if you handle your finances this way. You’ll have a lot of options later, at a time when many of your peers will have none. If you’re an older person, realize it’s never too late to start. If you’re on the wrong path, get off it, and get on to the right one. The sooner you do it, the quicker you will see results.
- Originally published on 5/7/2007.
