The Right Way to Take Retirement Funds-2

Pick the fruit, don't chop off the branches!

Last time I talked about the silliness of the “4% rule.” It is flawed for many reasons. The big one is it forces you into bonds and cash you don’t need. Also, it probably is based on a portfolio you have had for years and you were expecting a return of 9-11%. Let’s say you did 10% on average for 30 years. Now the advisor says, “you can only take out 4%?” Facing a 30 year retirement you can’t hold cash and bonds, not much anyway. You need income and you need equity. When I use the term stocks here, I mean both stocks and Mutual Funds, ETF’s, etc. When I say cash, that means brokerage cash which is liquid.

This is what you should do

Take all of your income in retirement from dividends and distributions from your portfolio. This is what we have done for over 20 years. Before that we used various methods that always called for the selling of shares to produce income. That is where “pick the fruit, don’t chop off the branches” comes from. Distributions and dividends are the fruit.

Almost all advisors will have a plan to generate cash by selling stocks. This can feel haphazard and can result in permanent losses. If you need $100,000 of income out of your plan this may be when the market is way down. To get the $100,000 they may have to sell sell shares when the market has had a downturn. This will “permanentize” the loss. Some advisors keep a large amount of cash in your account to cover that. Keeping excess cash is wasting money that could be growing and producing income. In a non-retirement account, selling shares leads to taxable events.

By taking just the fruit you gain an enormous psychological benefit. That benefit is this: You will know that the value of your account, the lump sum, doesn’t really matter, as we know it will grow higher over time. See my first article for more on that or get the book.

Considering a 30-year retirement, what 15 year period will you be spending, traveling, purchasing the most? The first 15!

As you take out dividends, which we distribute as a monthly check, you will notice that your check is growing along with inflation. That is because corporate stock dividends increase at an average rate of about 5.8% which over time will easily beat average inflation. So, you have an ever increasing income stream and never have to sell shares to receive it. From time to time if you want to take some principal and sell shares we can do that strategically.

Let me stop here to remind you of what I have said is the minimum you have to believe before you have great faith in buying companies. (stocks) And here it is again. You must believe that “Quality Equity assets, companies and real estate, will increase in value over time.” That is the base for everything.

Buy enough dividend paying stocks and other income investments to have your portfolio yield 5%. It is not hard. You spend those dividends for your income. That would give you $150,000 income. You will also have a large chunk of stocks and funds that are there for growth.

You are safe to also take out a bit of principal strategically. It is important that you forget about using retirement funds for special purposes, like a vacation home. That is what savings is for.

Dividends

Most people don’t realize the importance of dividends in growing wealth! Dividends account for about 40% of returns in the S&P index. How can that be? That was my question a few decades ago. Because dividends grow. They are a gift. And, they grow at a rate of about 5.8% which over time beats inflation. Let’s look at Coca Cola (symbol: KO) stock below over 30 years. We want to eliminate fear, dread, panic etc. It is a hobby that a lot of retirees take up. Don’t be them.

“Dread is not a Strategy”-Nick Murray

The chart is not interactive so I will go through it. The chart is a 30 year history of the share price, dividend and yield over the last 30 years. We are going to pretend you bought Coca Cola (KO) stock back then. The top section is simply the value of a share of KO over 30 years. You start out with a share price of $11.16. KO closed today at $61.20.

(The chart is not interactive)

That is a gain of 548% on the money you invested. Let’s say you bought 1,000 shares or invested $11,160.

The second section is the growth of the dividend. Coke has paid a larger dividend for 61 consecutive years. The starting dividend per share was 42 cents. That dividend today is $1.94 per share. That is an average yearly increase in the payout to you of 5.4%.

Overall dividend increases are about 5.8% for stocks on the S&P that pay dividends. Since the dividend is in dollars. The yield is not key. It is just the amount of the dividend, $1.94/$61.20 today or 3.17%. Here is the true but counterintuitive thought: If the stock goes down 20% or up 20%, what happens to the dividend? Nothing. The dividend is paid with no attachment to the share price. As you can see in the first and second section, the stock price can go up or down and the dividend is steadily growing. Coca Cola stock is pretty boring. These stocks I call “stalwarts,” a name I borrowed from Peter Lynch. Your $3 million would have a good size chunk in a group of other stalwarts.

Since KO is boring let’s look at another dividend stock. You may have heard of it. Microsoft became a dividend payer 10 years ago. At the end of 2013 MSFT was $25.85 a share. It closed today at $410.34. The beginning dividend was 84 cents a share. Now it is $3.00 per share. You would also hold a good chunk of this type of stock.

The third section of your portfolio is in higher yield investments. There are great investments here. I have a lot of expertise screening high yielding stocks. Some are household names like Whirlpool and Verizon. Both yield over 6%.

I would aim at at 4.5-5% dividend yield to start. We would take those dividends for income. That is about $150,000 per year. Over the course of your 30-40 year retirement, you may expect the portfolio to average 8-10%. We will rebalance or reduce the growth portion from non-dividend paying stocks to higher dividends. You will get raises two ways. 1. Dividends can increase. 2. We sell growth stocks over time and reinvest them to create more income.

It takes more than an article to explain it all. It takes a meeting or two at least. If you read my book, Mindful Money: how to overcome the #1 enemy of investment success: your brain, you will get all the basics and it will give you peace of mind as the years in the market go by. The ideas in the book have made many clients and my family wealthy.

I have an ongoing offer of referring 3 subscribers to me and I will send you the book. Subscriptions are free for now. I can be reached at craig@craigverdi.com. If you contact me for a consultation you should read the book. Take the time and make your retirement years less stressful, more fun and more wealthy!

See you soon,

Craig

Disclosure: This article is not endorsing the purchase or sale of any security. Names are used for example only.