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Conservative Model Portfolios for Retirees
Thursday October 25, 7:00 am ET
By Sue Stevens, CFA, CFP, CPA


Many of you who have been loyal Morningstar readers for some time are at least somewhat comfortable choosing funds. However, many investors need help creating appropriate portfolios that incorporate those fund choices.

To that end, I've created five model portfolios specifically designed for retirees. In this week's column, we're going to take a closer look at two of them, the Preservation and the Conservative Portfolios. (Next week, I'll discuss the Balanced, Growth, and Aggressive Growth Portfolios.) Unlike in portfolios appropriate for those still employed, preservation of principal plays a key role in the investment strategy. So, you'll see a heavier allocation to cash and bond investments in these portfolios than you might in portfolios for those who are still working.

Each person's retirement situation is unique. One size really doesn't fit all when it comes to retirement investing. You need to consider all sources of income--Social Security, pensions, dividend income, annuity payouts, etc. You also need to think carefully about how much risk you can tolerate. Use the following model portfolios to jump-start your investing strategy for retirement, but make sure you tailor these portfolios to fit your own individual circumstances.

I am going to talk only about mutual funds that are still open to retail investors today. But if you own a fund that I recommended a previous retirement portfolio article, feel free to continue to hold that fund. If you have any question about those funds, use Morningstar's Web site to see each fund's most current information.

Preservation Portfolio
If you are having trouble sleeping at night and you constantly worry about losing money in the stock market, then the Preservation Portfolio may be for you. This portfolio may be appropriate for those of you with shorter time horizons--say, fewer than 10 years. (By "time horizon," I generally mean life expectancy, not years until you retire.) If you don't have any other sources of income, then this portfolio may help you preserve your nest egg. Of course, even this very conservative portfolio has some risk. For example, when interest rates go up, you may lose principal if you are invested in bond mutual funds. If that's a concern, you can always use certificates of deposit or individual bonds (holding them to maturity) instead of a bond fund.

For your stock exposure, consider using Vanguard Total Stock Market ETF (AMEX:VTI - News) or Vanguard Value ETF (AMEX:VTV - News). Both are exchange-traded funds, which act like funds but trade like stocks.

If you're looking for a real estate fund, consider using T. Rowe Price Real Estate (NASDAQ:TRREX - News) or Vanguard REIT Index ETF (AMEX:VNQ - News). If you want to add international exposure, consider Dodge & Cox International Stock (NASDAQ:DODFX - News) or Vanguard Total International Stock Index (NASDAQ:VGTSX - News).

If you want to simplify by holding funds that combine stocks and bonds, consider T. Rowe Price Personal Strategy Balanced (NASDAQ:TRPBX - News) or Vanguard Wellesley Income (NASDAQ:VWINX - News).

For your core bond holding, put most of your money in high-quality intermediate-term bonds or bond funds. Consider Vanguard Total Bond Market ETF (AMEX:BND - News) or Vanguard Total Bond Market Index (NASDAQ:VBMFX - News). If you want a tax-exempt fund, consider Fidelity Intermediate Muni Income (NASDAQ:FLTMX - News) or Vanguard Intermediate-Term Tax-Exempt (NASDAQ:VWITX - News).

To add further diversification, consider holding a portion of your fixed-income holdings in inflation-indexed bonds. These bonds have longer maturities, so keep in mind their values may drop further than shorter-term bonds as interest rates rise. That aside, inflation-linked bonds offer a terrific diversification value. A component of their total return increases with inflation, which could be particularly valuable if inflation edges up over the coming months and years.

In taxable accounts, I'd use I-Bonds (a type of U.S. savings bond) for inflation protection. For more information, check out TreasuryDirect.gov. For tax-deferred accounts, you can buy individual Treasury Inflation-Protected Securities or a TIPS fund such as Vanguard Inflation-Protected Securities (NASDAQ:VIPSX - News). You may also benefit from a small amount of foreign bonds in your portfolio. Consider a fund like T. Rowe Price International Bond (NASDAQ:RPIBX - News), but limit your holdings because these funds can be quite volatile relative to other bond funds.

Finally, make sure you have a comfortable liquidity cushion. You should have enough in cash and cash equivalents (money markets, savings accounts, CDs) to cover expenses for two to five years.

Conservative Portfolio
If your life expectancy is at least 10 more years, you don't like taking a lot of risk, and you want modest growth over inflation, the Conservative Portfolio may be for you.

In addition to the stock funds I outlined above, stock investments that might be appropriate for the conservative crowd include any of the funds listed under the Preservation Portfolio and funds like Fairholme Fund (NASDAQ:FAIRX - News) or Royce Value (NASDAQ:RYVFX - News), which hold mid- or even small-cap stocks.

Sue Stevens, CFA, CFP, CPA has a position in the following securities mentioned above: VIPSX