Retirement Planning In the Time of COVID
During the year 2020, you've probably experienced exhilarating highs and painful lows as you've looked at your retirement account balance. Living in this time of the pandemic has been challenging in so many ways, including financially. Many people have faced strong headwinds as they have made adjustments to their retirement income strategies.
As unfortunate as the circumstances have been, the equity markets in 2020 have rebounded from their March/April lows. There are some valuable lessons to be learned for those of us who have watched the variance in our retirement account balances this past year and are looking ahead to what may be a turbulent 2021.
2020: Another Blip On The Radar Screen
If you're living in retirement or are close to it, you likely have come to realize that history tends to repeat itself. Particularly with the stock market.
When we think about financial downturns, you've probably seen and survived several during your lifetime. Black Monday of 1987, the Dot.com bubble of 1999-2000, and the Great Recession of 2008 are a few that you are familiar with. In all of these cases, the market suffered sudden, considerable reductions in value due to massive trading volume increases, reducing retirement account values dramatically.
Like 2020, these were also very challenging times. The saving grace is that the market regained forward momentum in all of these cases and marched on to historic new highs. Those that held their course and didn't panic-sell were rewarded by market levels never before seen.
What's been called the "stock market crash 2.0" of 2020 has proved to be much of the same. In November 2020, the Dow, Nasdaq, and S&P 500 all hit historic new highs, rewarding investors who only eight months before were watching their account values sit at what were probably all-time lows.
Though it was very tempting to sell stocks as they plummeted in value, those that held their positions have seen their account values restored. Long-term thinking overrode a short-term fluctuation, albeit a steep one. It's unknowable when a market or stock has reached the bottom, which is why prudent investors hold suitable investments even during downturns.
How the CARES Act Affects You
To provide economic assistance during the pandemic, on March 25, 2020, the Senate unanimously voted in favor of the Coronavirus Aid, Relief, and Economic Security (CARES) Act. Part of the CARES Act included some retirement planning changes for the year; most importantly, a suspension of 2020 required minimum distribution (RMDs).
This suspension of RMDs provides some relief to retirees since they don't need to take forced and likely taxable distributions from retirement accounts in 2020. Instead, they can leave their retirement accounts as they are and let balances sit until at least 2021. However, many retirees won't have the luxury of pushing off RMDs and will need to take distributions from their accounts to provide retirement income.
How does reducing RMDs this year help your long-term retirement income planning? There isn't one simple answer that can be applied universally since retirement planning is specific to each individual's goals and personal situation. In general, you might forgo the RMD to reduce taxes this year.
Using Bonds For Security During COVID
You've no doubt been told that bonds are an essential component of retirement income planning. Though there is interest-rate risk (and we're currently in a low-interest rate environment), bonds are valuable tools for retirees.
In reviewing the effectiveness and benefits of bonds for retirees, it can be said that:
Bonds are vital components of a well-balanced and diversified portfolio
Bonds help preserve principal with lower risk and volatility, on average, than stocks
Bonds produce income for retirees who may need to rely on their investments to generate cash flow to live off of
Bonds can be used to speculate on interest rate changes or to match future liabilities
Having the appropriate bond allocation in place is essential for anyone depending upon them for retirement income. Especially during the pandemic, investing in high-risk bonds could be compared to buying penny stocks or playing roulette: all are forms of gambling. And, the last thing you want to do is gamble with your retirement savings.
Instead, short term and high-grade bonds are recommended as appropriate instruments for retirees. Though their potential returns are not as glamorous as equities, they are vital components of a stable and strategic retirement plan. They are essential to preserving future cash flow needs.
Short term bonds effectively reduce volatility, one of the key characteristics of the markets in 2020. They fall on the safer end of the securities risk spectrum because of their short duration (a measure of sensitivity to the changes in interest rates) and near-cash maturity, which means you get your money back sooner.
The results were similar for high-quality bond holdings across various types of issuers, industries, and regions. High-grade bonds carry high ratings from the bond rating services, such as Standard & Poor's or Moody's, similar to your personal credit score. Like short-term bonds, they are considered conservative investments and are geared towards capital conservation, and perfect for retirement in a bear market situation.
Knowing Your Numbers
Just as it's beneficial to visit the doctor regularly to measure blood pressure, weight, blood sugar, etc., one of the significant benefits of creating a financial plan and reviewing it periodically is knowing the key metrics associated with your retirement income.
There are specific financial measurements that must be made regularly; they include:
Spending. You probably have a monthly budget that you try to adhere to each month, but is that budget appropriate for this period of market fluctuation? Though the stock market has rebounded, major corrections can occur at any time. With the control and eradication of COVID being relatively unknown, so too is the markets' direction. It's always a good idea during retirement to review your spending and make sure you're not depleting assets which may be drawn down further by a market correction.
Cash Reserves. Knowing what your cash reserves are and keeping them at acceptable levels is paramount to your financial health. 3-6 months of spending is the rule of thumb; however, it really depends on your own circumstances. For example, a duel income household may need less cash reserves that a household that relies on one income.
Taxes. You're not alone if you've lost some value from investments either by selling during the pandemic or showing a “paper-loss” on the investments that you held onto. Downturns like this are a perfect opportunity to do some tax-loss harvesting and offset some of the gains you realized prior or to offset your ordinary income, up to $3,000 in any given year.
Allocation Percentages. Since we've had such a wide variation in market values in 2020, your portfolio may have become unbalanced from your desired allocation percentages. This can affect your future retirement income stream if not rebalanced. Check your current allocation and see how it differs from the beginning of the year and adjust accordingly. Make sure your plan is still in alignment with your portfolio.
Trust Your Plan
Finally, trust the financial plan you've labored over and developed. You've invested your time and money in its creation and evolution; now is not the time to succumb to market fluctuations or the latest news headlines. Have faith and confidence that your financial plan will carry you through the challenging times we face now and will surely again meet in the future. Fortunately, history can provide you with confidence that a solid financial plan will outlast any economic turbulence experienced.
If you find it's time to review your plan and evaluate how COVID has affected your retirement plans, schedule your complimentary consultation with a Philip James Advisor today.