What is a Bond Tent?
I do not know why it is called a Bond Tent, but this is a new and interesting concept. I am assuming that you understand three concepts – a) Risk/Return b) Asset allocation and c) Bucket Theory for Retirement.
When a person retires there is a very important thing he has to do. He has to guard this INVESTMENTS with a hawk’s eye. When you manage your own money, there are just too many hair brained schemes from which you need to protect yourself. Once you retire with a reasonable nest egg (say 40x your annual expenses) REMEMBER you do not have a rupee to lose. Not a rupee.
When you retire at say 60 years of age and that happens to be March 2020 (or say 2008, it would have been the same), you are happy. However if you had retired say in November 2019, it is likely that you would have put 70% in equity (aggressive) or 50% in equity (less aggressive) or 30% in equity (conservative).
Lets take a couple spending Rs. 6L a year and retiring with say Rs. 2.4 crores (40x). If he had say Rs. 1.68 crores in Equity, and the balance in debt, he would have Rs. 72L in debt instruments.
In April 2020, he has been decimated – let’s say his equity has fallen by 50% – which means now his position is Rs. 84L in equity and Rs. 72L in debt. IMAGINE HIS STATE OF MIND! Obviously he now has Rs.156L and that is just about 25x his retirement expenses. Surely this is NOT ENOUGH. What could have he done differently?
Well there is something called a “Tent” that he could have built. This says a person should shift from say 70:30 in E:D to a more conservative 30:70 from the age of 50 to the age of 60. Then he spends ONLY from the debt portion for th next 2 decades – thus only the debt portion will be used for a draw down. Obviously 1 or 2 decades will be decided on the moves in the equity and debt market.
Say this couple had done the shift to 30:70 at age 60, he would have had Rs. 72 in Equity and Rs. 168 in debt (I am assuming that there is no capital loss in debt). So when the market fell 50%, he lost Rs. 36L instead of Rs. 84 lakhs as in the regular scenario. Let us say he gets 7% (after tax) from his debt portfolio i.e. Rs. 11.75L per month AND HE IS SPENDING that on a regular basis (year 2030, expenses have doubled). So far he is fine and he has not touched his capital. Good.
Now in 2030 his portfolio is Rs. 175L in debt (partial re-investment) and Rs. 100L in equity. I am assuming that his equity has grown from Rs. 36L – because a bad 2020 (which wiped out Rs. 36L from his equity portfolio) was followed by a good decade.
His position now is -He has Rs. 175L in debt and Rs. 100L in equity. His annual expenses are Rs. 12L and he has 23 years expenses and he is 70 years of age. Not bad, and can manage. However over the next decade he will need more debt instruments because his expenses will increase. So at this stage he re-balances and puts (say) Rs. 35L from Equity to Debt, tax efficiently.
Any questions / criticisms welcome.
I will write a rejoinder…if I get enough queries (on my blog, not on FB please)…
Mohan
thank you sir. after reading articles like these I have stopped chasing equity returns and focusing only on increasing salary and maintain a high savings rate. idea is to reduce the dependence on equity and avoid volatility in my retirement portfolio. reminds me of your teaching “ability to take risk” and “need to take risk”. if I earn and save enough I don’t need this risk.
Shyam Agarwal
Couldn’t agree more. But being a MFD who caters mainly to retirees my observation is
My clients have traditionally been in equity to the extent of 30-35%, which has now increased to around 50% due to investment in products like BAF.
However the panic in them is quite evident. I get calls every alternate day and everytime their faith in markets seem to be detoriating.
Was my asset allocation wrong. Just to add that most have indexed pensions while others have exhausted the limits in SCSS, Post Office and LIC Varistha Bima.
Is there anything else I should / could have done.
Ravindhiran Mukundrajan
Namaskaram Sir,
With debt yields (and products – no PMVVY or RBI Bonds) trending downwards in sovereign rated debt, getting 7% after tax will require us to take risk on capital through corporate bonds/funds. What would be your approach to get 7% while minimising credit risk? On a related note, can you also help explain laddering of annuities with a similar real world example and how you would minimize risk in such approaches (biggest risk is that of insurer going bust) – I have heard other folks acknowledge that you thought them this. It would be great to read an article directly from you on this subject.
For the equity part of allocation (which is anyway not going to be touched for many years), do you think it will be more prudent to either hedge a significant part of equity allocation using long dated put options or buy long-dated call options as an alternative to equity investment? While these are illiquid and will reduce returns, it will significantly reduce risk of having no returns after say 5 years. I am trying to understand why such options are not typically considered for retirees? What am I overlooking.
Thank you for spending so much time daily to educate us.
harsha
Can you explain debt portion? Are bank FDs considered debt? If only mutual funds, then how would one choose from a huge list of choices?
What about the annuities (or policies that promise to give 7-8% return in the old age)? Do they really provide debt category returns?
Is 30:70 one time allocation at the time of retirement?
Do you suggest only debt and equity or is there any other alternative such as senior citizen savings scheme, vaya vandana yojna or whatever that the governments of the day announce in the budgets?
Pradip Chinnakonda
Even with 70:30, he could have survived easily for a decade with income from debt investment and some withdrawal. But after a decade, the 84L would have grown to 2.0 Cr and even if he had consumed 50% of his 72L in debt, he would be better off.
Of course, the erosion of equity portfolio by 50% in current situation would send shivers down the spin. Risk appetite and human behavior plays an important role. A black swan event like this happens once in a lifetime. And one cannot plan considering such events. Form now on it will a talking point for a while whenever you sit and plan out for retirement for your clients. But, it won’t be prudent to plan factoring a black swan event always.
Once this event ends, maybe after 6-8 months, people will start talking about the missed opportunity.
LiveFossil
Excellent read. The bulls eye are the 3 doctrines – 1. Risk Vs Return 2. Asset Allocation 3. Retirement Planning via bucket strategy that use points 1 and 2.
However, in the second case, some assumptions / lee-ways were taken which were ignored in the first case. It is assumed that equities will bounce back in long term. Well that can happen for the first case as well. And if that is a 2008 like V shaped recovery, then again this will be looked like a missed opportunity to create corpus for legacy.
What i definitely agree is yes the total corpus has to be a mixture of debt and equity. Even in this ‘black swan’ ‘once in a lifetime’ (hopefully) event asset allocation is the ultimate holy grail. The percentages will vary from person to person or should i say greed to safety.
In case of 100% equity corpus reduced to 50% on your retirement month, you do not enough time on your side to both redeem and let your corpus recover to look forward to greener days. In case of 100% debt, well that’s that, you and your money are very very safe – till it lasts.
The other equally important aspects of retirement planning of course are
– You has invested in your health to still be active and cheerful on retirement
– You have adequate Health insurance
– You have invested in the relationships of your near and dear ones
– You have good company, friends and relatives as long as you don’t depend on them
– You have hobbies / interest to keep you engaged as long as you can
Krish
For beyond 50 age, better to stick with full debt or max 10% equity. Generating 7% after tax returns are also tough in debt. They should do the stress test and accordingly adjust their expenses. The best thing that they can do is to control their expenses and do some part time activities instead of focusing on Alpha.
Raghu
I typically maintain a 12 year expense in my deby kitty hoping that this will take care of my emergency and monhly expenses for 10 years.. Is there a risk with this approch even if i hit another cycle like what we see now?
Mohit Goyal
Sir I dont agree with the solution. If anything, what this meltdown has taught me (37yr old) is to have 2 buckets – income and growth. Income bucket is full with debt but income-generating products like Bank FD, tax-free bonds, POMIS, interest yielding products etc. The idea (for a retiree) is to generate a 6% post tax return from this bucket. 6% can match inflation forever (some odd periods where inflation is higher and/or market return is higher). So in this example, of the 2.4cr, 1cr or say 1.2cr (adding 20% for safety where 20L acts as an emergency fund as well) to go in this INCOME bucket.
The balance 1.2cr or 50% is GROWTH bucket. This has to be designed as per individual risk tolerance, financial IQ and overall situation. It can be 70:30 or 30:70. Ideally I’d rename it as GRANDCHILDREN bucket.
Saurav
Sounds like a modified & complex bucket theory made by some intellectuals.
Bucket theory is simple and equity and debt ratio should be proportional to investor risk taking ability & reversely proportional to the money already available in hand at retirement.