(PUB) Investing 2016

17

April 2016

Morningstar FundInvestor

the portfolio maintenance regimen, as well as spread- sheets detailing the portfolio’s maintenance and performance, on Morningstar.com: http://news.morn- ingstar.com/articlenet/article.aspx?id=746240. Performance Update In many years of our portfolio simulation, the rebal- ancing proceeds have been sufficient to meet living expenses and even top off depreciated positions. In other years, not so much, and our hypothetical retiree would need to turn to short-term reserves to supply living expenses. The years 2014 and 2015 provide good illustrations of each of those environments. Eight of our portfolio’s 10 holdings gained value in 2014 , led by our total U.S. stock market index fund, which soared by more than 12% . Bonds also performed reasonably well, with both Harbor Bond HABDX and Loomis Sayles Bond LSBRX kicking in a 5% return apiece. Those strong returns enabled us to meet our cash flow goal of $88 , 111 while also reinvesting in the international and commodities funds, which dropped in value. Performance wasn’t nearly as strong in 2015 , and the portfolio declined in value. Just half of our holdings made it into the black last year, and those returns were modest: Vanguard Wellesley Income VWINX was the portfolio’s biggest gainer, with returns of just 1 . 28% . The core equity fund in the simulation, T. Rowe Price Equity Income PRFDX , had a year to forget, with a nearly 7% loss. ( Vanguard Dividend Growth VDIGX , which is the recommended core equity position in my actual portfolio, would have per- formed better; as noted above, it doesn’t have a long enough history as a diversified equity fund to be used in a simulation dating back to 2000 .) Loomis Sayles Bond also had a weak year, and the commodi- ties fund, while a small portion of the portfolio, continued to bleed red ink. Commodities prices have recovered in recent months, though it’s anyone’s guess as to whether that trend will persist. Because our portfolio lost money in 2015 , I turned to our short-term bond fund, which had gotten fat in better market years, to both supply the portfolio’s cash flow and to top off depreciated positions. That illustrates the key virtue of the bucket strategy—

even in lean market years, cash and other short-term reserves ensure stability of cash flows.

Starting Value (1/2000): $ 1,500,000

It’s also worth noting that even with the 2015 losses, the portfolio’s value at the outset of 2016 was more than $430 , 000 higher than where it started out, and it has also supplied roughly $1 . 19 million in cash flows. That’s more a testament to strong stock and bond market performance that has prevailed during the 16 years of our stress test than it is to magic with bucketing or, for that matter, any particular prowess with asset allocation or security selection. It also illustrates that a 4% initial withdrawal, with inflation adjustments, is conservative and is designed to provide sustainable cash flows in a worst-case scenario market environment. (Most retirees would rather be safe than sorry when it comes to the topic of running out of money.) The 16 years in our stress test, although punctuated with two big bear markets, were decent. Holdings Review I’ve made just one notable alteration to the portfolio since inception, replacing T. Rowe Price Short-Term Bond PRWBX with Fidelity Short-Term Bond following a ratings downgrade on the T. Rowe fund. Note that Harbor Bond, Harbor Real Return HRRRX , and Harbor Commodity Real Return HACMX are all subadvised by PIMCO , which has been in the spot- light over the past 18 months following Bill Gross’ departure. Morningstar’s analyst team downgraded Harbor Bond during this period, in part because it was directly affected by Gross’ departure as well as broader concerns about personnel stability at the firm. Harbor Bond still earns a Morningstar Analyst Rating of Bronze, however, so I left it in the portfolio. Although these funds have also been affected by personnel changes at PIMCO , they both have been lead-managed by Mihir Worah since 2007 ; senior analyst Eric Jacobson considers them among the best options in their respective categories. K Contact Christine Benz at christine.benz@morningstar.com

Total Portfolio Withdrawals: $ 1,187,080

Ending Value (12/2015): $ 1,932,016