Based on James’ and Harold financial plan the recommended scenario has a probability of 0% success. Their core goal is saving for retirement which based on some factors has a very low chance of being successful and is below the confidence zone. One of the crucial factors is the average return which stands at 0.00% for the entire plan. The average return at its core makes the assumption that James and Harold will receive an overall rate for the calculated portfolio at the end of each year. Based on the couple’s portfolio value, they will have run out of money by the time they are one year into retirement. Besides the average returns, bad timing is also a crucial factor in the realization of the couple’s goals. Bad timing introduces 2 years of bad returns for the couple, between 2049 and 2050. The worst tome an individual can get bad timing is just before retirement.
Another factor to consider is the Monte Carlos 1000 Trials. For the couple’s case, their probability of success for their financial goal stands between 60 and 90%. For the Monte Carlos Trials percentiles are done on the 99 th , 75 th , 50 th , 25 th , and 1 st percentiles of the end of plan value. The trials for the couple are the checkpoints for the illustration of the possibility of the performance of the portfolio over time. Based on all the trials and percentiles done for the case stud, there are almost no chances of their plan being successful. The average return for the selected trial, which is 500 is approximately 0 percent based on the rationale that the estimated return of the portfolio is 0.0%. Furthermore, by the end of the 500 th trial the end plan will be at a deficit of -$301,003. Besides the current status of the end plan still stands at a deficit of -$82,999 dollars.
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Agreement/Disagreement with the Recommendation
I agree with the Moneyproguide recommendation. The rationale is based on the fact that their retirement goal is 57% funded and hence the probability of being successful is 0. Furthermore, if the plan were between 60 and 90 % funded, there are chances that it would thrive. Based on the details of the average return of the couple, they will be falling short of their end goal plan by a certain amount of money after their retirement. For example, one year into retirement, Harold and James will be at a deficit of $155,831. Beside their goal will cost them approximately $75,385 during that year. As they age through retirement their deficit will continue increasing implying that the chances for the success of their retirement goal is very low or still stands a chance of 0% success.
Suggestion to lower their Risk Tolerance
Yes, I would recommend that James and Harold reduce their risk tolerance. At its core, risk tolerance refers to the ability to withstand losses incase one’s investments perform poorly. It they lower their risk tolerance; the couple may increase their chances for reaching the financial plan. For example, is a significant portion of their portfolio is in low-risk bonds, and a smaller one in high risk factors, there are chances for reducing risks. Being aware of one’s risk tolerance is essential in creating a solid and working financial plan.
Furthermore, the defining factors for the couple’s risk tolerance range from their goal, timelines, the size of their portfolio, age and life stage, and person comfort level. One of the core reasons for their financial plan is to accumulate the biggest money pile possible for their retirement. Based on the calculations seen in the money pro guide, the couple requires a significant boost in income if they were to realize their plan. Hence their starting point should be by reducing the risk plan. Also, the couple has a limited timeline to take more risk. Timelines are essential in financial plan and goals. If one has more time to carve out the challenges faced by high risks, they could increase their risk tolerance. In the case of James and Harold, however, they have limited timelines based on their ages hence the need to reduce risk tolerance. Age is also another factor why the couple should consider reducing their tolerance. The couple is in their early and late 60s respectively, implying that they have less time for high risk tolerance. If they were probably in their 30s and 40s, they would have more time to carve that risk. However, at 60s, it is crucial to reduce their risk tolerance as they are almost at their ages of retirement.
The size of the portfolio is also another factor that the couple should look at to reduce risk. The couple portfolio is relatively low $120,000 meaning they do not have a chance for high risk in case value drops. Large portfolios have a high chance of thriving in case of a drop in prices. Lastly, the couple’s personal comfort level does not allow them to increase their risk tolerance. As revealed in their financial details, the couple loves to dine out and live a flashy lifestyle. The implication is that the couple may not be comfortable enough to increase their risk tolerance because in case there is a drop in value or the current harsh economic conditions as result of the COVID-19 pandemic, they will be unable to maintain their basic lifestyle.
Reallocation of Harold Investments
At the moment, Harold investments stand at 90% equity. The proper asset reallocation for the company is crucial for the couple to obtain financial freedom. Asset reallocation is dependent on risk tolerance which as aforementioned was a bit high for the couple. Therefore, in the process of reallocation, I would consider the significance of the market portfolio. Particularly, I would be keen on how they treat their 401k plan and IRA. On an annual basis, James contributes $3000 to his 401K while Harold contributes $10,000 to his IRA. Therefore, I would recommend that the reallocation of investments begins with James increasing their contribution to the 401K plan.
Another way is through the use of conventional asset allocation model for the stocks and bonds. The most classic recommendation is for the subtraction of one’s age from 100 to see how much one can allocate in bonds and stocks. The basic premise is that they will averse risks because as they age, they reduce the ability for income generation. The core goal of asset reallocation is to increase their average returns as they reduce and manage risks throughout their lifetime. Choosing the right strategy for asset reallocation is crucial because the couple does not have long before they can retire. Besides they can not tolerate a high risk.
Implementation of Recommendations
Based on the financial plan for the couple together with their lifestyle, there are numerous actions that can be taken to implemented the recommendations for the scenario. First, the couple should consider the timing. According to the plan they have a bad timing because two years prior their retirement there are bad returns for James. Furthermore, the worst time to get bad returns is usually just before retirement. The couple can consider extending the retirement time for one of them, specifically James to improve on their returns.
Another issue lies in prioritization. The couple should prioritize in investing with things like stocks and bonds as opposed to mere allocation of money to the 401K and IRA plans. This is because investment in bonds and stocks will increase their average of returns which will boost their money pile up for retirement. Priority should be on increasing their annual average returns because as they age, they may be unable to work. Besides their age does not allow them to make huge investments due to the cushion for the drop in value.
From a standpoint of money, James and Harold should consider putting more of their money in investments. For instance, they could cut out on the flashy lifestyle and put most of that money in investments. Money allocated for dining out could be better allocated in the investments or in the respective saving plans. Also, they can channel some of this money to purchase insurance for disability. Furthermore, as one ages, they become prone to chronic illnesses which could leave them disabled at some point in their life. To afford basic healthcare during retirement, I would recommend the couple to allocate more money towards purchasing insurance.
Monitoring Financial Plan
Monitoring of any financial plan is crucial for progress and evaluation of what needs to be done. For the case of James and Harold, I would recommend that the financial plan be monitored on a quarterly basis annually. The rationale stems from the fact that frequent monitoring will help review and make the changes deemed necessary. Besides, frequent monitoring will be crucial for the couple to create an exhaustive an come up with a strategy that will align with their overall financial retirement plan and goal.
