This article, “A Terrific Large Growth Fund” at Morningstar (M*) concludes: [JENSX] “Jensen Quality Growth’s managers have demonstrated stock-picking acumen over a long period of time.” We nesteggers know that it is very rare that a fund will outperform its peer index fund over a decade – no more than 1 in 16 do. But is JENSX one of the very few with a track record that tells us that it will beat the market in the future? The purpose of this post is to explain why I would NOT want to own this fund, and you shouldn’t want to own it either: I’d conclude future performance will be no better than its peer index fund.

 

== Why this article? ==

 

The article is an example of the kind of report you could receive on more than 1,000 mutual funds if you were a Premium Member to Morningstar: cost of about $200 per year. I sometimes come across similar articles that recommend an actively managed fund. I’m curious. Is the fund recommended really a world beater? I look first at the fund’s Expense Ratio and then at performance on the M* site: M* compares the historical performance of any fund to its peer index fund. Does JENSX have low costs that aren’t too great of headwind to overcome and a solid track record that says it’s very likely to outperform in the future?

 

== Expense Ratio ==

 

I first look at a fund’s Expense Ratio to judge the headwind it has to overcome to deliver a return better than the market. I find Expense Ratio on the M* Quote page; that’s the page you get after you enter the fund’s ticker symbol in the Search bar on M*’s home page. Morningstar states JENSX’s Expense Ratio is .87%. That .87% is 12% of the expected real return of stocks of 7.1% per year (.87%/7.1%). I like to think of that as a breezy, 12-mph headwind that JENSX has to overcome every year or over the years if it is to deliver better than market returns.

 

 

I want to compare that 12-mph head wind to that of its peer index fund. M* says JENSX falls into Large Cap Growth category; that make sense from the “Growth” in name of the fund. But the M* display on the Portfolio page tells me JENSX is closer to Large Cap Blend. This could be an aberration in the snapshot of holdings as of the end of January. But I’m going to use Large Cap Blend as the benchmark for comparison. I’ll show the comparison to Large Cap Growth in a bit; it’s not as good.

 

 

The Expense Ratio for the index fund I use for Large Cap Blend, VLCAX, is .05%. That’s .7% of the 7.1% expected return (.05%/7.1%). That is calm conditions of less than 1 mph . 1/17^th that of JENSX. It’s much easier to VLCAX to deliver a net return that’s close to the total the market return. I’d reliably keep +99% of what the market returns, but I’d never get more than the market return.

 

== Stock Picking ==

 

JENSX’s can only deliver a return to an investor that’s better than a peer index fund or better than the market if it’s its stock picking skill is better than others. It’s a zero-sum game: the managers of JENSX only win that game by beating other actively fund managers. JENSX can overcome its 12% headwind to match its peer index fund if some other managers perform 12% worse. Winning that game with any consistency is tough. Is JENSX up to it? The data in this Table says, “No, not really.”

 

 

JENSX does beat VLCAX over some holding-periods but not others. Recent performance has really dragged down the results of longer holding periods. Over a 10-year holding-period JENSX lags VLCAX by about .7 percentage points per year. That seemingly insignificant difference in return rate cumulates: you’d have  6% more from VLCAX than from JENSX at the end of ten years. Overcoming that deficit in the future won’t be easy.

 

 

== What if the benchmark is Large Cap Growth? ==

 

JENSX’s performance is worse if I compare it to VIGRX, the Vanguard Index fund for Large Cap Growth. The table shows JENSX trails badly over every holding-period. Over ten years it trails by more than two percentage points per year. The difference in compound growth is 20%. That’s REALLY difficult to overcome in the future.

 

 

== Would I buy JENSX? ==

 

Nope. I don’t see anything about JENSX that excites me. I can’t see why anyone would buy it.

 

== Would I sell JENSX if I owned it? ==

 

I sent the link to the M* article to my friend Jay with the comment, “What is M* thinking? Why would they recommend this fund? Look at that Ho-Hum performance. Who would buy this?” Jay responded, “I already own it in my taxable account!” Hmmm.

 

If Jay would not buy JENSX now, should he sell it now? That decision takes a bit of thought and math. In the next week or so I’ll explore that question, “When should you sell an actively managed fund and buy its peer index fund?”

 

 

Conclusion: We all see articles that recommend actively managed funds. When I dig into the funds recommended, I’m usually unimpressed. The costs that these funds have to overcome are high. They can only overcome the costs by winning the stock picking game, and that’s a zero-sum game: an active fund wins only when other active funds lose. Very few actively managed funds are able to overcome their costs to deliver the net return of a peer index fund. Performance may have looked good in the past, but that good performance just does not persist.

The IRS published proposed changes to RMD percentages in November. The rule making process will be completed this year and new, lower RMD percentages will likely take effect for 2021. This post describes those changes and what I think that means for us retirees. My conclusion is that the changes don’t really mean much to you. Here’s a short summary article on the changes.

 

== RMD Factor and percentages ==

 

RMD percentages for our IRAs or 401k for all almost all of us – married or single – are determined by the Uniform Lifetime Table published by the IRS.* The Table displays RMD Factors – IRS calculated life expectancies – for each year of age. The Table basically assumes you are married and your beneficiary (Patti in my case) is ten years younger than you and uses the life expectancy of that younger person for your “RMD Factor”. This table shows current RMD Factors for the first dozen years of RMD. The inverse of each factor is RMD%.

 

 

My current RMD% for this year – age 75 – is 4.37% and next year it would be 4.55%

 

== RMD% isn’t connected to SSR% ==

 

The IRS makes no judgement on how the RMD% will affect the value of your IRAs over time. RMD%s are meant to be low enough so your retirement account easily lasts the lifetime of your beneficiary but are to be high enough to provide reasonable income. The IRS does not use a Retirement Withdrawal Calculator (RWC) to find your highest Safe Spending Rate (SSR%). That’s a whole different logic. [See Chapter 2, Nest Egg Care (NEC).]

 

Your Safe Spending Rate (SSR%) is always more than your RMD%. That’s primarily because the added ten years of your life expectancy is not appropriate for most all of us for the calculation of your SSR%. Patti is three years younger than me, not ten. Her life expectancy when we started our plan was 19 years, not 27. Our initial SSR% was 4.40% (See Chapter 2, NEC) in the year my RMD% was 3.65%. SSR% was about 20% greater RMD%.

 

== Don’t use RMD as a guide to spending ==

 

Some folks I know use their RMD is their target for spending. They don’t want to spend more than their RMD. They feel badly if they do spend more. Using your RMD as a guide means you are spending far too low of an amount to ENJOY. If I had done that for 2015, my first year for RMD, I would have ignored Patti’s IRA (She was not subject to RMD.) and our taxable assets as part of our nest egg. My RMD was a fraction of our Safe Spending Amount for 2015. I would have hated that.

 

Patti and I don’t want to make the mistake of spending too little at this stage in life. The driving issue for us is the shockingly low probability that both of us will be alive in, say, ten years. It was 50% probable that both of us would be alive in JUST 11 years at the start of or plan in 2015. (See Chapter 3 and Appendix E, NEC.) We’ve both lived five years, and I can calculate that that same probability is eight years now. We both want to live those years to the max – always paying ourselves our SSA and spending or gifting it all in the year. Those are also going to be our healthiest years.

 

== Higher RMD factors = Lower RMD% ==

 

Americans at all ages are living longer if one looks over long enough time period. Recently some age cohorts have seen declines in life expectancy (Blame the opioid crisis.), but we retirees are consistently living longer. Each cohort (age) lives a bit longer than the cohort from the year before: I’m 75; if I live to age 76, the probability that I will live to be 77 is just a bit – a very tiny bit – better than that probability for those age 76 now.

 

The IRS has not updated their life expectancy tables for 18 years, so that’s a lot of years to accumulate small annual increases in life expectancy for each year of age. The IRS new calculation of life expectancies conclude that appropriate RMD Factors for each age should be about 1.5 years more than those set in 2002. I show the changes for up to age 82; last week’s post explains why 70 and 71 no longer apply.

 

 

 

My RMD Factor for next year increases. My RMD% will be lower next year than this year: my RMD% for my current age 75 is 4.37%. It would have been 4.55% next year, but it will be 4.22% for 2021. If I had $1 million on 12-31-20, my RMD would have been $45,500 and the new RMD would be $42,200. I have to take $3,300 less from my IRA.

 

== What do these changes mean to us? ==

 

The economic effects of the changes are small as I discussed in last week’s post.

 

• You gain from lower total tax in the short term. In an example of $3,300 lower from RMD at age 76 would translate to about 15% less tax that year on $3,300 or about $500: that’s the differential between 22% income tax and 7.5% effective capital gains tax that I showed last week. You get a bit more to spend after taxes now. I like that, but that’s not a monumental amount.

 

That’s really a deferral in taxes. You’re using your taxable assets for spending a bit faster than you otherwise would. Your sources for spending will shift a bit faster from taxable accounts to your IRAs. Eventually you will be withdrawing more from your IRAs and your total tax, because of the higher tax rate on income, will more than you otherwise would have paid. You’ll net less.

 

• You gain a bit of wealth over time because you’re leaving a bit more – $3,300 more in the example – in your IRA account to compound tax-free. Growth of your investment in your IRA is effectively untaxed. That tax-free run will end when you withdraw for your spending in a future year. The amount of taxes you avoid on the growth of that $3,300 works out to a small difference per year ­– maybe a hundred bucks or so.

 

• When you take less from your IRA accounts, you are moving somewhat faster toward the day when your real RMD will double – assuming returns for stocks and bonds are at their expected rates of return. You IRA portfolio is growing a bit faster since you are taking out a bit less. As I mention in this post, the doubling can be a problem for a rare few retirees.

 

 

Conclusion: The IRS has proposed changes to RMD percentages. RMD percentages will be lower starting in 2021. The percentage changes are a fraction of a percent. You have a small gain in lower taxes now. That’s nice, but it’s not monumental. The other changes are small: you have a bit more in your IRA to grow tax-free; you are progressing a little faster to the time you will see your RMD double if returns for stocks and bonds are at expected rates. That doubling could possibly be a headache for some folks.

 

 

* The IRS has a different Table – with higher RMD Factors – if your spouse is at least 11 years younger.

The SECURE Act, passed in December, brought changes to retirement plans –– and more will come in 2021. This post discusses the SECURE Act and what I think it may mean for you. Next week I’ll describe lower RMD percentages that start in 2021.

 

== SECURE Act passed December 2019 ==

 

You can find summaries of this Act. Two are here and here. I highlight two key changes that affect retirees or those nearly retired.*

 

1. You don’t have to start taking withdrawals until the year you turn 72 (up from 70½).

 

2. Heirs after your death – with some exceptions – have to withdraw from their inherited IRA within ten years; that could have easily been over 30 or more years before. A key exception is a surviving spouse: SECURE did not change the RMD period or percentages.

 

How significant are these two?

 

== Two years of no RMD ==

 

What’s the benefit of not taking RMD at age 70½? This does not apply to Patti and me. We both take RMD now, but those younger may see a benefit from not taking RMD for two years.

 

• The first benefit is lower immediate taxes on the amount you withdraw from your nest egg for spending. If you don’t withdraw from your IRAs or 401ks for two years you’ll withdraw from your taxable assets. You always have the incentive to withdraw more from your taxable assets than from your IRAs. That’s due to the difference in effective capital gains tax rates and income tax rates. In this example your effective capital gains tax is about 1/3 that of income tax. You net 19% more to spend when you get your cash from the sale of securities in your taxable account.

 

 

This advantage of lower taxes on withdrawals from your nest egg dissipates as you get older. You will shift to a greater portion of your withdrawals coming from your IRAs.

 

– Your Safe Spending Rate (SSR%; see Chapter 2, Nest Egg Care) is always more than your RMD percentage. When you start out on your retirement plan, you withdraw your total SSR% and Safe Spending Amount (SSA) but you (generally) don’t withdraw more than RMD from your retirement plans. You therefore are always disproportionately withdrawing from your taxable account.

 

– You’re lowering your taxable assets, your lowest tax-cost source for cash for spending faster than you are lowering your IRAs. Year by year you inch toward the point where your retirement assets are a much greater part of your total. (Patti and I are that point now.) Then you’ll withdraw disproportionately from your retirement assets. The total tax bite out of your total withdrawal with be greater; your net to spend for a given withdrawal will be less than before.

 

That’s not a problem in my mind. Patti and I have seen a 22% real increase in our SSA over the past five years and even with modest returns this year we’ll see another real increase for spending in 2021. (All nest eggers have seen a significant real increase in their SSA.) Even after paying a greater percentage in taxes when we’re in our late 70s or 80s, we’ll have a greater net to spend than when we started our plan in 2015. And Patti and I both think we will spend less when we are in our 80s.

 

• You have a second benefit. As I mentioned in this post, when you keep money in your IRA you get a tax-free ride on the growth of your investment: you’re avoiding capital gains tax on the growth of your investment. You’ll have greater portfolio value later. That’s a good thing.

 

How much is this benefit? It’s good but not spectacular: $10,000 that has a 6% expected real return rate (a combination of 7.1% for stocks and 2.3% for bonds) would grow by about $8,000 in a decade. You keep all of that tax-free growth when you then withdraw from your IRA for your spending.

 

If that $10,000 was in a taxable account you’d be paying 15% federal capital gains tax. A simple way to look at this is to assume that capital gains tax is 15% of $600 of annual grown. That’s $90. While this simple example doesn’t count the effect of compound growth, I think that $90 close enough to get the picture. You come out ahead by $90 per year for each $10,000 you choose to leave in your IRA. That’s nice, but certainly does not change your financial future in any significant way.

 

== It’s possible to wipe out the benefit of tax-free growth ==

 

That math that calculates the benefit of tax-free growth assumes the marginal rate you would pay if you withdrew now is the same one that you’ll pay when you withdraw in the future. That may not be the case. I describe the possibility of being taxed at a higher marginal tax rate in this post: at expected return rates for stocks and bonds, your RMD will increase over time and will double in real spending power in about a dozen years relative to a withdrawal at age 70½. You are always being pushed toward a higher marginal tax bracket.

 

That doubling could put a portion of your total income in a much higher marginal tax rate than the one you experience at age 70½. You get to keep far less when you cross two big jumps in marginal tax in our current tax code: 12% to 22% and 24% to 32%. The higher bracket takes about a 10% bite out of the net you get to keep than the lower bracket. Cross one of those jump points and you start to lose all or more than all the benefit of tax-free growth.

 

 

It’s a bit of work to figure out if you might cross a jump point. (The post describes steps to figure this out.) This is particularly worth figuring out if you are a married couple with sizeable Traditional IRA (over $2.5 million) when you first start to take RMD. The example in the post showed a married couple would never get close to the 32% tax bracket, but when one dies 20% of the income of the surviving spouse would be taxed at 32%.

 

== The impact of ten-year rule on heirs ==

 

The ten-year rule on withdrawals for heirs will have an impact on the after-tax benefit they receive: withdrawals may put them in a much higher marginal tax bracket than they would otherwise experience for the prior “stretch IRAs” that could run for decades. Some writers have gone nuts about this, describing this as “a confiscatory death tax”. I discussed this issue last summer in this post. I don’t see this as a big issue:

 

• The “stretch IRA” rules were not rational in my mind. The thought that my Traditional IRA contribution in 1981 could have some part compound tax-free for decades – even eight decades – after I die is almost ridiculous. I don’t think folks thought that through when they wrote the legislation that set those rules for an inherited IRA.

 

• I argue that the “stretch IRA” similarly pushes your heirs to higher marginal tax rates for the same reasons that you are pushed toward a higher marginal tax bracket. RMDs will increase in real terms. That “confiscatory death tax” is a red herring. Heirs very well could pay in the same high marginal tax bracket under the “stretch IRA” as under the 10-year rule.

 

• If Patti and I left money from our IRAs to our heirs (We don’t plan to leave all of our IRAs to them; we think it’s better is to leave our IRAs, never taxed, to charity.), we’d want them to enjoy it earlier in life and not leave most of it untouched for their retirement decades later. We’d like them to take it out within ten-years or less to improve their lives sooner rather than over perhaps 45-years.

 

 

Conclusion: The SECURE Act, passed this past December, changed the rules for retirement plans. The two most significant changes for retirees or those soon to retire are 1) Required minimum Distributions (RMDs) begin in the year you turn 72, not 70½; and 2) inherited IRA distributions generally must now be taken within 10 years. I personally don’t see that much advantage to waiting to take distributions from your IRA. I don’t get upset about this.

 

 

* I ignore one change that seems insignificant to me: you can now contribute to a traditional IRA beyond age 70½. This just aligns Traditional IRAs with Roth or 401ks; you could always contribute to those two beyond age 70½ if you were still working. Note: there is no special advantage to contributing to a Traditional IRA relative to a Roth IRA; if the tax brackets at time of contribution and at the time of withdrawal are the same, Traditional and Roth result in the same after-tax dollars to you.)

Last week I wrote about four principles for spending on ourselves that makes us happy. The book Happy Money described a fifth principle, Investing in Others, that is obviously different. This post summarizes the main point of this part of the book: you increase your happiness more by spending on others than by spending on yourself. You’ll be happiest with this spending if you can conclude a) your giving is a choice you have made, not a moral obligation; b) you can connect in a concrete way to the people being helped; and c) you are confident that your gift has impact. Happy Money states your Prosocial spending should be greater than 1/10^th of your personal spending.

 

This is a good, 11-minute TED talk by Michael Norton, one of the authors of the book. Here a 14-minute talk by Elizabeth Dunn, the second author: “Stop thinking about giving as a moral obligation. Start thinking of giving as a source of pleasure.”

 

== “Investing in others” ==

 

I like this term. I’ve written on this general topic before, “What’s Money For?” here and here. I used the term “help.” Help build success for your family and for others. But I like the term “Invest” better than the word “Help”.

 

== What’s Prosocial spending? ==

 

Prosocial spending is spending as gifts to others and donations to charities. You can use this table below to categorize your typical monthly or annual spending. Once you’ve categorized, divide your personal spending by your Prosocial spending.

 

 

In a representative sample of Americans, the average ratio of personal to Prosocial spending was 10 to 1. The study sorted out what made people happy. “The amount of money that individuals devoted to themselves was unrelated to their overall happiness. What did predict happiness? The amount of money they gave away. The more they invested in others, the happier they were.” This effect holds across a wide range of income around the world with people with very wide income ranges. Even experiments with toddlers show they expressed they were happiest when they gave their own treats to someone who had none and who expressed gratitude for their gift.

 

I’m sure Patti and I did not spend 1 in 10 on Prosocial gifts when we were in our Save and Invest phase of life, but now our Prosocial spending is more than 1 in 10. We don’t spend 90% of our annual Safe Spending Amount on ourselves (SSA; Chapter 2 Nest Egg Care). What we don’t spend on ourselves we give to family or charity.

 

== How to Give to get you the most Happiness ==

 

The book described three strategies organizations seeking donations can use to increase happiness of donors. We can apply these three to the way we give to give us more happiness. 1. Make It our Choice; 2. Make a Connection; 3) Make an Impact.

 

Make It our Choice. well, this is pretty obvious. We want to give because we make that decision and not because we think we have a moral obligation to do so or because someone tells us we should. Charities clearly need to ask for donations, but donors who read “It’s entirely your choice whether to give or not” felt happier and more connected to the charity than the message “I really think you should help out.”

 

Make a Connection. We are happier with our donations when we connect to those receiving our gifts.

 

All of us are connected to our family. Investing in our family to make them successful and happy is built into our DNA. Patti and I want to give in ways that are investments for the future: we emphasize gifts for education and to retirement plans. We want to give while are alive. I would not be nearly as happy with a plan to keep our money to ourselves to accumulate so that they can divide a bigger stack after we are dead.

 

We are happier – no matter how much we give – where connection to those we are helping is clear to us. Happy Money uses the example of Donorschoose.org. Donorschoose.org seeks donations to under-funded classrooms and does an excellent job of linking a donor to those the money will help. You can search for a classroom at your old school, one in your neighborhood, classrooms in the poorest school districts in the US, or make a donation based on your interest – science or history, for example. You get a thank you from the teacher and often from the students. That just reinforces the connection.

 

My friend Betty told me about two charities, somewhat similar to donorschoose.org where the connection between your giving and the end recipient is clear. Here’s one she likes: kiva. You get to pick the theme of your giving (women, education, refugees, others). You can even see a picture of the person you are helping.

 

Two of the large charities we give to do a good job in linking us to the people that ultimately will be helped. One we give to doesn’t do as good of a job in my mind in building an emotional connection, and after reading this, I need to “follow the money” to get a better connection to who is being helped and how. Or, more correctly I need to tell them how to better connect me to the people they help.

 

Make an Impact. Some charities are rigorous in assessing the impact of the donations they receive and organizations they then support. I buy into measurable, Big Impact for our donation dollars. Patti and I donate to GiveWell which rigorously evaluates how they direct donations to organizations that save and improve lives. I like to think that our donations will actually SAVE LIVES. I can connect with someone who WILL NOT DIE as a result of our gift.

 

100% of our giving at GiveWell goes to two top-ranked organizations that work to prevent malaria. About 400,000 die of malaria each year and two-thirds are under the age of five – every two minutes a child under the age of five dies from malaria. One organization distributes pills that prevent malaria in children under the age of five during the peak four months of the rainy season; the other organization distributes Insecticide Treated Nets. GiveWell estimates that roughly $2,500 saves one life.

 

Happy Money mentions several organizations that also rigorously evaluate impact that I had not heard about and now want to explore: Mulago Foundation (high impact organizations working to end poverty), Spread the Net (malaria prevention in Africa; 19 million nets protecting 41 million people), and Kickstart (water pumps for irrigation in Africa). I like the Kickstart video: “Poverty to Prosperity in Just One Season.” The other charity that my friend Betty likes is Charity: Water, investments in community owned water projects: 44,007 funded projects and +10 million with clean water. See a short video here.

 

Figuring out how best to give money is more difficult than deciding on our next nice vacation. I know Patti and I can improve and find the best organizations to support. I want to spend more time understanding the connection to the specific results of our giving.

 

How good of job have you done in picking the charities you give to? Are you getting the happiness that you should?

 

 

Conclusion: Giving our money away can make us happier than spending it on ourselves. But how we give makes a big difference in how happy that makes us feel. We make ourselves happier when we give in ways that emotionally connects us to the people we are helping and in ways that we know have a big impact on their lives.

I read this book and liked it: Happy Money: The Science of Happier Spending. The book says we – especially retirees — should think about money differently. The science of happiness tells us we should not view our money as a means to get more money – that’s what we typically do –  but we should use view money as a means to get more happiness. The book lists five key principles as to how should use money to make us happier: 1) Buy Experiences; 2) Make it a Treat; 3) Buy Time; 4) Pay Now, Consume Later; and 5) Invest in others. This post discusses how Patti and I think about Buying Experiences and weaves in aspects of the next three principles. What experiences do you plan to buy and how will you buy them in 2020?

 

== Our BIG experiences: Travel ==

 

Travel by far is the largest discretionary expense for Patti and me. Our vacations are the most memorable experiences we buy. We are in good health now and want to continue to buy travel experiences.  Happy Money says we get far more happiness when we spend on experiences than when we spend to buy stuff. I’d agree. My desire for stuff has crashed. I have close to zero urge to spend on a new car, for example. I bought two pair of travel pants about 18 months ago. They’re great. They wear like iron. I think that’s about it for pants purchases for a few more years.

 

Do you have travel plans for 2020? Most friends tell me they do, and I think that’s great. Some of my friends that I think have a nice nest egg and are clearly in good health tell me they don’t like to travel. I wonder how they’re going to enjoy the money they have.

 

== We think differently: our monthly pay ==

 

I think Patti and I have an advantage in how we view our money. We calculate our annual Safe Spending Amount (SSA) and pay it out monthly to ourselves. We get a steady paycheck just like when we worked – when we were in the Save and Invest phase of life – but now we know we have no real reason to save one dime of it. It’s a lot easier for us to think how to use money to increase our happiness.

 

I think most retirees fail to pay themselves from their nest egg and therefore they think differently about their money. If I didn’t send that monthly check to ourselves, I think every time we’d think about spending a big amount for travel, I’d be calculating how much that was going to cost in future growth in our portfolio. I’d probably ask, “Can’t we find something that costs less?” I’d be stuck in the Save and Invest phase of life. That’s not the right way to think about money as set forth in the book.

 

== Anticipation is happiness ==

 

One of the principles of happiness is that we get present pleasure by anticipating a future experience. New or novel experiences are best. Experiences you can envision more concretely in the future are better. More distant events are better. Experiences that are physically challenging are more rewarding and memorable.

 

Patti and I have a travel bucket list that helps think about and anticipate the future. Maybe you do, too. We change it often. The travel we now have planned for fall 2020 wasn’t even on the list last fall. We’re streaming Ken Burn’s West documentary, and I just added two possible travel experiences to the list. We discuss the trips we might want to take, re-rank them, and decide which ones we will buy in the upcoming year or years. We keep the list as a Note on our iPhones/computers that we each can amend. Here’s our current list.

 

 

We like travel to be active and connected to the outdoors. Patti and I like to walk/hike on our vacations and hope we can continue to be active for a number of years. But we’re past the age of looking for physical challenges to make our experiences more memorable. We know we will be pleasantly tired at the end of eight miles and that’s just fine. I do like that I have to prepare weeks ahead of a trip to make sure I can hike eight miles and just be pleasantly tired and not ache the next day. That routine reinforces anticipation.

 

We like to always have our vacations fully planned – and largely paid for – at least six months in the future. I’ve always liked knowing we have something to look forward to. Our 2020 experience that is furthest in the future is at the end of September and early October: two weeks in Tuscany. We’ve never been to that part of Italy. This will be a treat for us.

 

I generally like to plan the complete details of our walking vacations in advance. I don’t like to conform to a set agenda. I don’t dig in to get a good picture of where we will be and what we will be doing if I totally delegate that to the tour company.

 

Organizing the days has always been very easy to do for our travels to England. The information on the long-distance walking trails is terrific. Train, bus or taxi is very easy to organize ahead of time. I used to spend hours figuring out miles per day and where we would stay. It’s a lot easier for the recent past since we’ve been to the Lake District for or five times now.

 

I want a self-guided walking. When we’re going to a non-English speaking country I don’t try to organize the details myself. I want a local company to help: they’ve laid out the walks; they arrange all the logistics of getting where we are staying to the start of each day’s walk; they know the best places to stay; they usually have three levels of quality and cost of accommodation to pick from. Here are three companies that we have used in Portugal, Italy, and France.

 

== Pay Now, Consume later. ==

 

I like having to pay for the package before the trip. We spend most on travel in January or February. Patti will work her magic and buy most, if not all, airfares, and I’ll make the deposits for all our trips for the year. Once we’re past that first-of-year hump, it’s all downhill. We spend very little when we are on the trip. I like getting back and seeing that we’ve very charged very little to our credit card.

 

I like the fact that logistics expenses are bundled in the tour packages. I don’t want to think about that detail. The self-guided packages we buy are roughly half the price per day of higher-end guided walking tours. We wind up asking for changes to the suggested daily details. A standard package may be seven days and six nights. We typically want to stay two weeks. We wind up asking the tour companies to help us stretch our stay to more nights and maybe more walks. We’ve stretched the standard seven-day/seven-night package to 12 nights in Tuscany this fall, for example.

 

I’m not inclined to dig into the details of the costs we might be adding to the standard package. Luciano (Girasole) was great in telling us he wanted to arrange for a driver to take us from the Rome airport to Siena. Going first to Rome and then Siena would have been a logistical nightmare. Hiring a driver means we’re using money to buy time and avoid stress. That cost is buried in the total price. I don’t have to think about how much I’m paying for the driver, nice car, and two-hour drive.

 

 

Conclusion: We all typically spend hours and hours and willingly pay for advice to understand how best to save and invest. We trust our intuition as to the best ways to spend to make us happy, and science tells us our intuition is often wrong. Follow five principles for happier spending: 1) Buy Experiences; 2) Make it a Treat; 3) Buy Time; 4) Pay Now, Consume Later; and 5) Invest in Others.

How much did $2,000 that I invested in an IRA in 1984 accumulate to in 2020? $88,200! I’ve repeated a post like this for two years now (here and here), but I always like to look back to see the power of saving, investing in stocks, and compound growth. At times I look at my IRA and ask, “Where the hell did all of that come from?” Especially after a year like 2019. The purpose of this post is just to refresh that perspective. Keep the lessons in mind for your kids and grandkids: if they save now, they, too, should have many multiples of spending power in the future.

 

== Our gift we opened Jan 1, 2020 ==

 

Patti and I conceptually opened our 36-year old gift envelope on January 1: I put $2,000 in my IRA on Jan 2, 1984 when I was 39; I invested in a stock index fund* on that date and it sat there for 36 years. It went through the ups and horrible downs in the stock market since then. But we did not touch it. Patti and I ripped open the opened the envelope this January 1 and emptied its contents on the kitchen island counter: $88,200! “Spend it all this year! We’re going to ENJOY.”

 

== Four envelopes ==

 

Here’s the display of four envelopes. Tax deductibility for contributions to an IRA began in 1981, so these are the first four years of today’s Traditional IRA: I display results two ways. I show in the table below the change in nominal dollars. This means dollars include the effect of inflation; we had relatively high inflation in the 1980s­ –6% per year from 1981 through 1984 for example. This gives a dramatic picture of the multiple we earned, but it overstates what happened in real spending power. But it sure is catchy!

 

 

The table below lets us see what really happened. I adjust the $2,000 we invested then for inflation. The $2,000 I invested in January 1984 has the same spending power as $5,050 today; that’s what I really invested to compare to the $88,200 on January 1. It’s “just” a multiple of 17.5X.

 

 

You can also see by comparing the tables that I invested $2,000 each year 1981-1984, but the inflation-adjusted amount that I invested declined each year. That’s because it took quite a few years for Congress to adjust the contribution limits for inflation. It was well past 1984 before Congress first adjusted the contribution limits. Congress’s most recent adjustment raised the contribution limit to $6,000 for 2020, and this is almost the exact same spending power as $2,000 in 1981.

 

== Why more than 12X in spending power? ==

 

My use of the Rule of 72 – using 7.1% real annual return rate for stocks – says one would expect about 12X growth in spending power in 36 years. That’s roughly half way between 8X at the 30-year mark and 16X at the 40-year mark.

 

 

The actual returns have averaged 17X. Last year’s post has a good picture of why this is true and shows that bonds would have similarly resulted in many multiples of growth: they ended their 45-year run of 0% cumulative real return starting in the early 1980s and began a steep upward climb to their current long-term average return of 2.3% per year.

 

== What are the lessons from this story? ==

 

1. To build a nest egg we have to invest heavily in stocks and tolerate their annual variability in return. Where else will we find roughly 7% real annual rate of return? Some friends of mine love bonds; some love gold; some love real estate. I just don’t get it. They can’t expect to average anywhere close 7% per year real annual return over many years.

 

 

2. Try to help the next generation understand the power of saving and investing. We all want to help make our family successful. Patti and I like the idea of giving now to help them to have more money in the future. Patti and I also want to give in a way that encourages them to be savers and investors like we were.

 

 

 

Conclusion: We retirees have ridden a very favorable sequence of returns starting in the early 1980s through the 1990s. Those who saved and invested are in the group of the richest retirees in history. Our savings compounded savings by many multiples by investing in either stocks or bonds. Patti and I gave $2,000 in 1984 to our older selves. We opened that gift and found 17X in greater purchasing power. $2,000 of spending power saved and invested in the year 1984 translated to roughly $3,000 per month to spend in 2020.

 

 

* Source. Morningstar. VFINX’s “Growth of 10K” graph. I change the start date to 01/02/1984 and the end date to 01/01/2020. You will see $10,000 grew to $441,300 or 44.1X.

 

Inflation data is from here.

I like looking at the Vanguard Style Box (I call it a Nine Box.) at the end of the year to get a snapshot of what outperformed and what underperformed the US stock market as a whole. US stocks are likely the biggest portion of your portfolio; they are more than twice the next biggest component – International stocks – in our portfolio. This post shows 2019 results. I previously reported 2017 and 2018 results.

 

I display the Vanguard index funds that focus on each of the nine segments. (I have no idea why Vanguard’s list of funds on their Style Box excludes index funds this year.) I also display for reference the +30.8% return for VTSAX, the index funds that holds ~3,600 US stocks. (I hold FSKAX, a very similar fund to VTSAX = +30.9% in 2019. I would expect over time for the two to be virtually identical in return.)

 

 

Vanguard’s index funds track very closely to the underlying indices. Vanguard tracks performance of its index fund to indices constructed by a third party. It’s not the same company the Morningstar uses as benchmark indices, but for our purpose we should assume they are the same. Vanguard shows fund performance is very close to all its benchmark indices less the fund’s expense ratio, no greater than .07% for these funds.

 

I display the percentage point difference from VTSAX in each box below. Five of the nine boxes were better than VTSAX and four were worse. Growth was the winner. Value was the loser. Large-Cap growth beat VTSAX by 6.4 percentage points, and it was also the clear winner in 2017 and 2018. Small-Cap Value was the worst at -8.0 percentage points. Large-Cap Growth Small-Cap value by 14.4 percentage points; that pattern has repeated for the last couple of years.  

 

 

If you look at the Morningstar site, you will find that VTSAX is classified as “Large Blend” just like VLCAX. VLCAX (Large Blend) outperformed VTSAX because VLCAX is only large cap stocks – 592 stocks held. VTSAX hold holds the total market – 3,587 stocks – and was hurt this year by Small-Cap stocks.

 

== Five years ==

 

Common wisdom is that you can tilt your portfolio to outperform the average. The thinking is that Value will outperform Growth given enough years, and Small Cap will outperform Large or Mid Cap. (I put tilting toward small cap out of my head here.) Tilting these ways clearly did not pay off for the last five years. I know I can’t predict which box is going to outperform over the long, long time of our retirement plan. That’s why I hold Total Market funds.

 

 

For reference: Total World Stock Index, MSCI All Cap World Index = +28.11%. Total International Stocks (VTIAX) = +21.51%. (Patti and I own the ETF of this = VXUS = 21.75%.)

 

 

Conclusion: 2019 was a terrific year for US stocks. It was clearly the best since the start of our financial retirement plan five years ago. You can always expect some segments of the market to outperform and some to underperform. It’s been fairly consistent that Large-Cap Growth stocks have outperformed over the past five years. Value stocks, especially Small-Cap Value stocks have underperformed. I don’t think anyone knows what will outperform in the next five.

 

I’m throwing down the gauntlet. In past years I might have said, “Ha! Beat That!”, but not now. When we’re retired, our challenge is to keep as much as we can of what the market gives. My challenge to you is to compare to see how close you came to returns that Patti and I earned for our stocks and for our bonds this year. If you are close, you squeezed out and kept what you should have. If you are a couple of percentage points off, I’d argue that something’s not right with your portfolio. The purpose of this post is to describe our returns. I hope your returns are VERY CLOSE to ours.

 

 

== How I calculate our returns ==

 

I get the return data for each security we own from Morningstar. Click on the Performance tab for each security. The site updates 12-month, time-weighted returns overnight. I’m compulsive and look to get returns for the year the morning after the last trading day of the year. That was December 31 this year. You don’t have to be as compulsive as I am: Morningstar updated the table of historical annual returns on the Performance page after the first trading day of the year – that was the morning of Jan 3 – to clearly show calendar 2019 returns.

 

When you only hold four securities like we do and have picked your weights for US vs. International, the calculations to get to totals for stocks and bonds are a snap. Shame on you if you have more clutter – a lot of funds, ETFs and individual securities that you then have to weight correctly to get to your total return for your stocks and your bonds: your task can be painful. Most folks have far more clutter than just four funds/ETFs and just don’t do this calculation. I’ve not seen brokerage statements that help a whole lot with this task. Those folks will conclude that they had a good year in 2019 but they will have no idea how they did relative to what they could have earned from a very simple portfolio.

 

== Stocks +28%. Bonds 9%. Overall for us +25% ==

 

The table below shows the return for each of our securities and my calculation of the total for stocks and bonds for the weights (US vs. International) that I picked and for our portfolio total given the mix (Stocks vs. Bonds) that I picked. (See Chapters 8 and 11, Nest Egg Care (NEC)). Nominal returns for our stocks were up 28.2%. Bonds were up 9.1%. I think my decision on weights results in good benchmarks that you can use for comparison. The total for our mix of Stocks and Bonds was 25.3%.

 

 

The table below shows that 2019 was clearly our peak year in the last five for our stocks and for our bonds and for our overall total.

 

 

== Our real return has averaged 7.4% per year ==

 

I’m much more interested in real return rates. Inflation just confuses me. Real returns drive real increases in our Safe Spending Amount (SSA). (See Chapters 2 and 6, NEC.) Our real return rate for our portfolio for 2019 was 23.3%. Our average annual return for the last five calendar years is 7.4%. Obviously, the return this year boosted that annual average: at the end of 2018 the four-year average was just 3.7%. The 7.4% is greater than our expected return rate – using the long-term returns for stocks and for bonds – of 6.4%.

 

 

== Your return will vary with choice of mix =

 

I recommend a range of mixes of stocks and bonds in Chapter 8, NEC. Patti and I are at 85%-15%. My friend Steve doesn’t have his eyeballs focused on a distant future year and is more worried about annual ups and downs than I am. He’s more comfortable with 75%-25%. Our 85%-15% mix is about 1.8 percentage points greater real return than Steve’s this year (23.3% – 21.5%).

 

 

Our cumulative return over five years is about 10% greater than Steve’s. That’s meaningful. That means that Patti and I would now have about 10% greater annual SSA than Steve and his wife, all other things being equal.

 

== Your choice of securities may be different ==

 

You may have chosen different mutual funds/ETFs than I did. My friend Chet and I have the same weights and mix, but Chet picked different securities for US Stocks and International Stocks. We’re the same on bonds. Results for our choices of US stocks are almost identical over the last three years, but Chet’s choice for International Stocks is about .1 percentage point greater average annual return (10.02% – 9.91%).

 

 

When I add in the return for bonds Chet is running .01 percentage points ahead on the annual return rate for our portfolios (11.96% – 11.95%). If we both started three years ago with $100,000, Chet is now $42 ahead.

 

 

 

Conclusion: Calendar year 2019 was a terrific year for both stock and bond returns. Patti and I earned 28.2% for our stocks and 9.1% for our bonds. Those returns are good benchmarks for you to compare to your returns. You should be VERY CLOSE to those for stocks and for bonds. If not, something is amiss with your portfolio.

All of us Nest Eggers will calculate to a real pay raise for 2020: that’s because of the excellent stock and bond returns this year. (I describe our pay increase for 2020 here and the prospects for another real increase for 2021 here.) In the old days, I’d likely plan on saving more from a real pay increase but that makes no sense now: we have to spend or gift more from pay increases now. Saving makes no sense. This post describes my thoughts on what we’ll do with ours in 2020: I’m focusing on lowering stress and buying more enjoyable time. Have you sorted out what you’ll do with your pay raise?

 

As I look back on prior posts, I laid out my thinking of “What’s Money For” in a series of posts last March and one in July. (See here, here, here, here, and here.)We should think of using our money for BFFC: the Basics – which don’t really change much over time; Fun – fun experiences almost solely from travel and spending for less stress for Patti and me; Family ­– our money can help them enjoy now and be more successful in the future; and Community – Patti and I try focus our giving to reduce human suffering (see here).

 

 

== Small $$$ signal, but it’s enough to think about ==

 

Our pay raise for our spending in 2020 is not large. It’s just a 2% real increase over 2021. On top of the 1.6% inflation rate, that means our paychecks – the monthly amount we pay ourselves from our Fidelity account – will increase by 3.6%.

 

We clearly have the all BFFC options, but I want to focus on spending that small increase for 2020 to lower stress and give us more free time. The article I cited before “One surprising way money can buy happiness, according to scientists” states, “People who buy time by paying someone to complete household tasks are most satisfied with life . . . yet very few individuals think to spend money in this way.” And I just finished this book, “Happy Money, The Science of Happier Spending”. It similarly says, “Most individuals fail to use their money to buy themselves happier time.” The question we should ask is, “How will our spending change the way we use our time?” When we focus on our time rather than our money, we act like scientists of happiness, choosing activities that promote our well-being.

 

== We spend to enjoy ==

 

Patti and I already do a pretty good job of freeing up time and avoiding tasks we never did like or no longer like:

 

 • We pay for help around the house. Most of these tasks have migrated from somewhat enjoyable many years ago, but now fall in the unenjoyable category. Cindy helps clean inside. (That was never enjoyable for either one of us!) Doc routinely cuts the lawn and does the minor outside work; RJ does a great job on planting the annual flowers; Joe and his crew do the major cleanups and trimming; Kapps does their thing to keep the grass green. Steven does the windows and the leaves on the roof in the fall. (I stopped climbing ladders ten years ago.)

 

• I cook a complete meal from scratch only about twice a week — but we don’t eat out that much either. Our local Food Shoppe is 1/3 mile away. We find that picking up one of their two-person meals for $12 – and we’ll have leftovers – complemented by our vegetables and even naan bread saves us a lot of time. Plus, the food is really good. We also have lots of other carryout places for diversity within ½ mile. Our current favorite is Aladdin’s.

 

• I “outsource” our bill paying. I’ve automated our payment of routine bills (utilities, phone, internet, credit cards, mortgage) through PNC BillPay. I rarely hand write checks. Setting this all up took time, but now it’s stress free. I think I’ve handwritten and mailed fewer than ten checks this year.

 

• We don’t drive long distances. I think our max driving time is six hours. More than that is not enjoyable to us. It’s much more relaxing for us to fly and rent a car if needed. Patti plans way ahead and always gets low fares and rentals. It’s often cheaper to fly and rent a car than it is to drive.

 

== We can do better ==

 

Here are things that have been unnecessarily stressful for us this last year. We can buy lower stress.

 

• Get help for winter snow removal. I used to like to do this, but I no longer want to get the snowblower out to keep the walks and drive areas clean. Doc said he’d do this for me this winter. He’ll make the call when there is enough snow. I’ll keep my mouth shut if he come when it’s iffy on the amount of snow or if the weather forecast says it will melt later on.

 

• Get help with the Christmas decorations. Our house looks great when we get the decorations up, but we don’t consistently get them up. It’s become a bit of a chore. That’s partly due to my poor organization of what to buy, when to buy it, and where to buy it. I have this all down now in my 2Do app for next year. should be a snap. We also need help getting the Christmas tree from the basement up to the landing on the second floor. It’s an awkward task and really not 100% safe for Patti and me to do this by ourselves. We had Doc and his wife Barb help this year. That was great. After Christmas I’ll have them come back to help put it away. They’re both agreeable to helping next year on the last Sunday in November 2020 – if Doc isn’t deer hunting.

 

• Get help for Spring and Fall cleanings inside. I don’t really see that much need, but Patti wants our house to be really, really clean inside. She complains at times that it isn’t clean enough. Cindy can come extra, and Doc and his wife Barb can help. I put down to schedule two special clean ups: one in April and one in November. Those will make Patti much happier.

 

• Get the cars detailed every spring. This is not a stress reducer since I spend very little time on keeping our cars clean. We drive so little now that they just don’t get very dirty, and the car wash is just 2 miles away. But they do look great after I get them detailed, and I get a bit more pleasure riding in them. The cleaner they are the less I’m inclined to think about buying a new car. I have not had them detailed on any regular schedule. I added reminders in 2Do to call for appointments in the last week of March for early April.

 

 

Conclusion: All Nest Eggers will have a real increase in their Safe Spending Amount for 2020. We all need to think what we’ll do with the extra pay. We certainly know we have no need to save any of it. This year I thought more about spending on a few things around the house that would reduce stress or add a bit of pleasure: bye-bye to winter snow removal; get the Christmas decorations up painlessly; power clean the inside of the house twice a year; get our cars detailed each spring.

Our portfolio – your portfolio – shouldn’t be viewed as one big pile of money. For almost all days in the year I can’t help but look at our total as one big pile: I see the total amount Patti and I have on the portfolio page after I log in at Fidelity. But I really don’t want to think about it as one big pile or just two piles of stocks and of bonds. I want to think about it as three portfolios grouped in different holding periods – the number of years on average that we’ll hold stocks and bonds before we sell them for our spending. Each portfolio has a different mix of stocks and bonds and therefore different expected return and volatility: low, medium and high on both counts. The purpose of this post is 1) to look at the past five years of return rates and volatility in three re-imagined sub-portfolios for our Investment Portfolio and 2) to remind ourselves how we further isolate ourselves from bad volatility of returns.

 

== My analogy of bottling wine ==

 

I can easily recast our stock and bond returns into three groupings, but I imagine this task differently. I want to have a physical image of our portfolio arranged into holding periods. I’ve settled on the analogy that our portfolio is wine and that every December 15 I bottle very properly aged wine to consume in the upcoming calendar year. That is what I do: I sold securities this month equal to our Safe Spending Amount (SSA) for 2020; after withholding taxes, I’ll pay out the net from our Fidelity account to our checking account each month. Patti and I receive a case of wine each month to consume.

 

I imagine that Patti and I have three groupings for our wine: two groups of wine barrels that I imagine we keep in our garage. Each barrel holds one year of wine that I will bottle in December and consume in the next year. One large vat is out back and holds the rest of our wine. Last Sunday, December 15, I imagined I went out to the garage to bottle the wine in the barrel for our 2020 spending. (You can read more detail of how I spent two prior imagined “Bottling Days” here and here.) That barrel was in the #1 position of the ten barrels. Here’s the listing of the barrels and detail information that I’ve marked on each.

 

 

I group the first three as Finishing Barrels: each is 80% bonds and 20% stocks. I group the next seven as Aging Barrels: each is 60% stocks and 40% bonds. All the rest – it will be more than ten years before we bottle and drink any of that – is in a Large Vat and is 100% stocks.

 

I like to think how long wine that we drink has aged and the care we’ve taken to age it properly. The wine that we will drink for 2020 was first filled with wine from the Large Vat in 2009. Some of that wine had been in the vat for 30 years. That barrel then aged for seven years at 60% stocks and 40% bonds and then three years at 80% bonds and 20% stocks. That’s quite a process.

 

At the end of my work day, the lineup of barrels looks the same as it was at the start of the day, but I’ve rolled the 2021 barrel to the #1 position. I moved the empty 2020 barrel to the back of the line in the #10 position. I filled it from the vat. I adjusted the mix to 60%-40% and marked “Bottle in Dec-29 to drink in 2030” on it. I also adjusted barrel #3 to be 80% bonds and 20% stocks rather than 60% stocks and 40% bonds.

 

 

== The pattern of returns and volatility ==

 

Do the the mixes of stocks and bonds in my three groupings make sense? (You can see the detail calculations that lead to the two summary tables here. I’m using our 12-month returns ending November 30 for this table.) The three groups follow the expected pattern of returns that I would expect. Finishing Barrels are about 2.3 percentage points less in annual return than Aging Barrels. Aging Barrels are about 2.3 percentage points less in annual return than the Large Vat.

 

 

The three have generally followed the pattern of lower to higher volatility that I would expect. My crude measure of volatility is the percentage point difference between best to worst annual return.

 

 

A few of the details surprise me. I would not expect to find that a finishing barrel had the largest negative return over five years; that’s the -3.2% in 2018. I would have expected the 13-point spread for Finishing Barrels to be MUCH LESS than that of the other two; that large point spread is due to the high return for bonds this year, and that’s a good thing.

 

== We want further isolation from volatility ==

 

None of these five years come close to a Most Horrible year. Oh, Patti and I are really happy about that. You should be, too. 1974 was the worst or close to the worst year in history. We’re looking at a -12% real return with a mix of 80% bonds! And those others! That was ugly.

 

 

When I think that a year like that is possible, I always think about the off-the-top Reserve that Patti and I exclude from our calculation for our Investment Portfolio. (See Chapters 1 and 7, NEC.) I will use the Reserve for our spending in a year and completely dodge having to sell securities in a year that is remotely close to 1974. When I use the Reserve rather than selling stocks when they’ve cratered, I’m buying time for our Investment Portfolio to recover.

 

Patti insisted on two years of spending in Reserve. (See The Patti &Tom File at the end of Part II, Nest Egg Care (NEC). That means right now we can wait three years before we would have to sell stocks: spending for 2020 is in cash/near cash; we could use the Reserve for spending in 2021 and 2022. The first date I might have to sell stocks is December 2022. And I can stretch that date: I likely would see poor returns well before our caclculation date at the end of November and we could easily lower spending – that’s fairly painless for us given our real 22% the pay raise over the past five years. And I am now renewing our HELOC (Home Equity Line of Credit) that I could tap to wait longer. That ability to hold off for more than three years gives me the sense that we’ve really isolated ourselves from bad stock market volatility.

 

 

Conclusion. We Nest Eggers shouldn’t view our portfolio as one big lump that rises and falls with market returns. That tends to make us too sensitive and too emotional when we are hit with bad volatility in stock returns.

 

It helps to imagine our portfolio in parts related to different holding periods. It’s hard to display your holdings in your brokerage account that way. But that’s easy to do on a spreadsheet when you separately track your stock and bond returns. Each holding period should have an appropriate mix of stocks and bonds. I like my arrangement of three holding periods that start with 80% bonds and 20% stocks and end with 100% stocks.

 

The money invested for the shortest holding period will have lower but more stable returns. The money invested for the longest holding period will have higher but more variable returns; we know that if we’re hit (or when we’re hit!) with bad volatility of stock returns, we have many years to recover.