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The Buckets Strategy in Practice

Last update on: Feb 02 2017

The most difficult issues in retirement planning might be deciding how to spend your money and how to invest it during the spending years. One strategy that attracts people is know generally as the buckets strategy. This is when assign different amounts of your portfolio to different spending buckets and invest according to the bucket. For example, the amount of money you plan to spend in the new two years would be in one bucket, the spending bucket. This would be invested very conservatively. In fact, it wouldn’t even be invested. It would be held in assets such as money market funds, CDs, and the like. Another bucket might be money you plan to spend in two to five years, and so forth. The longer it will be before you plan to spend money in a bucket, the more of a long-term strategy you can take with it and the more investment risk you can take.

How does the buckets strategy work in practice. Morningstar.com established some investment, rebalancing, and spending rules for a buckets strategy and with help from T. Rowe Price simulated what would have happened from 2007 to 2013. The results showed that the buckets strategy can be effective, but you have to establish clear rules in advance and be sure to follow the rules. Also, buckets strategy is more complicated than simple explanations and examples indicate.

Among the key conclusions from the exercise is that, even more than the bucket framework, holding and rebalancing a diversified portfolio in retirement can help provide decent performance and deliver a steady cash flow under a variety of market conditions. During the depths of the bear market, for example, rebalancing out of the portfolio’s appreciated stakes in high-quality bonds helped meet planned withdrawal amounts. Those rebalancing proceeds, plus cash withdrawals from bucket 1, obviated the need to withdraw from equity assets while they were down. Maintaining a sizable equity stake, meanwhile, allowed the portfolio to rebound more than it would have if it were focused strictly on bonds and other income-producing assets, particularly as yields plummeted coming out of the financial crisis.

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