Sand In My Shoes: New Goals

As I mentioned in my first article, I have an old 401(k) that I have yet to do anything with. I would have rolled it over long ago except that it is quite sizable, at least for me it is, and I have been slightly nervous about taking control of a piece of my portfolio quite this large, but I think the time has come. Part of the reason we all do this, in fact maybe the biggest or only reason, is so that we can all actually, eventually, escape the rat race. I don’t need to tell this audience, but nobody cares more about your money than you do.

Taking charge of as much money as I’m about to has made me think about my asset allocation, my risk tolerance, and my time horizon. When I started working at the company where I accumulated these 401(k) dollars, my age still started with a “3”. Now … it doesn’t. It’s closer to starting with a “5” than a “3”. So questions like “How soon will you need this money?” and “How much time do you have to replace retirement savings if the next market downturn wipes out 30%-40% of your money?” are a little more scary. I can start withdrawing money from my 401(k) or IRA around Thanksgiving of 2029. So it’s really not that far away. And if Mr. Market wipes out 40% of my portfolio I really don’t want to think about what that would do to my retirement date.

With the influx of new capital, it is time to set some new goals. A 10-year goal of receiving an average of $250 per month in dividends ($750 per quarter) – which is my current goal – will seem quite silly. I’m bumping this up, a lot. I’m going to more than triple this goal and after much calculation and several Excel spreadsheets that I mangled, I’m going to go with a goal of $10,000 in dividends for a year, that year being year 10 which starts August 1, 2026 and ends July 31, 2027. The $10,000 figure is slightly more than the figure my calculations reached, but I was also slightly conservative in my assumptions. So perhaps it is a stretch, and perhaps I am being too wimpy, but I will revisit these goals every so often and hopefully I can up the goal in time. I’ll show you how I got to that figure and maybe it will get your wheels spinning as well.

The 401(k) – the Specifics:

So I am finally ready to roll over my old 401(k) from my previous employer. Up until this point it had simply remained in the same mutual funds I selected several years ago. They were probably selected when I first joined the company and became eligible for the 401(k) and other benefits. I dribbled a couple hundred bucks per paycheck into these funds and my employer matched part of that, your typical 401(k) situation.

Well, thanks to time, my regular contributions, the company match, and starting those contributions when the Dow Jones Industrial Average was under 10,000, I managed to amass a little over $200,000 in my 401(k).

What I do not want to do is cash the whole bloody thing out and immediately buy $200,000 worth of dividend growth stocks. I also started thinking about not just what sectors my money is invested in, but what classes of investment my money is invested in. When I say “sectors” I mean Healthcare stocks, Technology stocks, Utilities, etc. When I say “classes” I mean Domestic stocks, Large Cap Growth stocks, Real Estate, Small Cap Value stocks, Corporate Bonds, Cash, and that kind of thing. There are so many ways to classify the investments out there, it is staggering.

“OK,” I said to myself, “if you’re going to take control of this money, you need to first find out where it is now.” And, I also needed to consider where I wanted the money in the future and how I would get there. So next we need to talk about asset allocation.

What is Asset Allocation?

Simply put, asset allocation is a way to balance risk versus reward by investing certain percentages of your portfolio in different asset classes. The asset classes that are considered riskier also are the assets that come with the greatest potential reward, so if you are risk-averse you probably want less or none of these asset classes. Conversely, the assets that are the safest usually have very little reward associated with them. Think cash in a bank savings account and the 1% return you are getting if you’re lucky. Very safe. Very unrewarding.

So if you are in your 20s and just started your career, you may want to be heavily invested in the “riskier” kinds of assets. Broadly speaking this would be stocks, or equities. More specifically, you will probably want to lean towards growth stocks, and maybe small cap stocks (which are more likely than say, Johnson & Johnson (JNJ) to either crash and burn – risky – or give you a 58% return in a single year – great reward). JNJ will likely do neither, so it is considered “safer”. You may also want to invest a larger portion of your money in International stocks. Or go nutty and invest in small cap international growth stocks, surely considered one of the riskiest of all asset classes.

On the other hand, if you are 75 and your sole sources of income are Social Security and the money you saved over the course of your career, you probably want a fair amount of your money in cash or short term interest bearing instruments (CDs or commercial paper or short term bonds, etc.). You probably don’t care about or need explosive growth in your investments. It would be nice, so even the most conservative portfolios still tend to have a small percentage of their assets allocated to equities.

At present, my asset allocation in my 401(k) looks like this.

I don’t know. I’m not a kid anymore. I am a little leery of having over 85% of my retirement assets in the stock market. This is because of something called the “Time Horizon”. A Time Horizon is the amount of time money is invested before it is liquidated. My Time Horizon, as I mentioned above, is Thanksgiving of 2029, so 12 years. I’m not going to liquidate the entire amount then, and maybe not any of it right then, but that is when I can start.

So seeing these numbers made me feel just a bit uneasy. So obviously my “risk tolerance” is a little bit lower than 85+% equities. I was not even sure how much “Foreign Stock” I wanted, but 21% also made me a little bit uneasy, so I guess that is too high. Risk tolerance is a measure of how much variability in the value of your investments you are willing to withstand. Spreading your assets out across various classes is supposed to cushion your portfolio against the whims of the equity or bond or real estate markets. So how do you figure out what your risk tolerance is?

Happily, there are countless numbers of questionnaires on the Internet that will gauge your risk tolerance based on the answers you give to their questions. Here is an example of one of them. After you answer all the questions and provide data like your age, your current holdings, your projected spending needs, etc., many of them will suggest or will provide you a model asset allocation for your money.

I went through a number of automated asset allocation questionnaires. Generally at the end of them I received a suggested weighting for my investments. Some were as useless as “Given your risk profile, you should be invested in 70% stocks, 30% bonds”. Well I wanted a little bit more granularity than that. I eventually got to the following answer after one of these, which made me feel much more comfortable than where my money currently is invested:

10%

Large Cap Growth

15%

Large Cap Value

10%

Small/Mid Cap

15%

International Equity

25%

Domestic Fixed Income

20%

International Fixed Income

5%

Money Market

The fetching Mrs. Soule and I have a fairly large “emergency fund,” so we have quite a bit of cash already. I don’t see a very good reason to hold 5% of my retirement investments in “Money Market,” so I’m not doing that. I also am looking for a slightly smaller exposure to International Equity. And a total of 50% equity sounds just a little bit low, so I’m bumping it to 60%. In all, I settled on the following target asset allocation that I will track to going forward (for now):

40%

Large Cap Equities

10%

Small/Mid Cap Equities

10%

International Equities

40%

Fixed Income

So how is this going to affect the Sand in Shoes IRA?

Moving forward, I plan on combining the two accounts. The combined balance of my new IRA once I roll over the 401(k) into a new combined account will be approximately $240,000. So given my new target asset allocation, I will be looking for this:

40%

Large Cap Equities

$ 96,000

10%

Small/Mid Cap Equities

24,000

10%

International Equities

24,000

40%

Fixed Income

96,000

I already have, let’s call it $28,500 in individual stocks, all of them large cap equities, which I have been detailing these past three months. I am not changing my philosophy with the large cap equity portion of my portfolio. But I also don’t want to move immediately into individual stocks because I can’t do $67,500 worth of research that quickly. So once my rollover has been completed I will have a portfolio that looks something like this:

40% S&P 500 Index $ 67,500
Existing Stocks 28,500
10% Small/Mid Cap Fund 24,000
10% International Fund 24,000
40% Fixed Income Funds 96,000

I am not a mutual fund person, so I have no plans at this time to write about which mutual funds or ETFs or fixed income investments that I end up going with. But I am also not going to try and select individual international stocks or bonds, or small- or mid-cap stocks. I might eventually do that, but again I don’t have that kind of time at the moment. I will continue to select large-cap dividend growth stocks however.

The plan for now is to move $2,000 per month out of the S&P 500 Index fund and either initiate a new position (buy 10 shares of 3M Co (MMM)) or possibly add to an existing position (add 50 more shares of AT&T Inc. (T)) if that is the best decision. Ultimately, the goal would be to have all 40% of the Large Cap portion in Dividend Growth Stocks. It will take a while, hopefully around three years, before that happens, but that is the idea for now. I will strive to maintain the 40/40/10/10 allocation and will report on my current allocations in my monthly updates and will make changes quarterly or more often if needed.

Current Goals: Assumptions and Methods

So you might wonder how I arrived at the $10,000 in dividends in a year. If 40% of my current asset balance is less than $100,000, how in the world will I manage to squeeze $10,000 out of those assets? That’s more than 10% yield.

Well that is true, and would be a very stupid goal if I did not invest in Dividend Growth Stocks. The beauty of stocks that grow their dividend is they don’t care how much you paid for them. If they increase the dividend, you don’t owe them any more money. Your yield on your original investment goes up, or what we in the DGI community call “Yield on Cost”. For example, if you buy a stock for $10 and they pay you $1 per year in dividends, your yield is 10%. If the stock goes up to $20 and still pays $1 a year in dividends, the yield of the stock is 5%, but your money, your $10, is still earning you 10%. If the stock climbs to $40 per share and they raise their dividend to $2, the yield is still 5% on the stock, but you now have a stock yielding 20% on your original $10 purchase.

Using a real life example from my portfolio, I purchased $2,400 of BlackRock, Inc (BLK) a little over 5 years ago. They have raised their dividend every year since I’ve owned it, and they have done so at about a 10% clip. Currently the yield on the stock if you were to buy it today is 2.3%, but my yield on cost is almost 6% ($140 annual dividend on $2,400 invested). So the idea is to find stocks that will pay me well now to own them and will pay me better to own them two years, five years, ten years from now.

In addition to the growth of the dividends, I will be purchasing more dividend paying stocks each and every month. And not just the $2,000 I am going to be pulling out of the S&P 500 Index fund, but I will also be reinvesting any dividends I do receive. So by way of example, in June I collected a little over $120 in dividends and would therefore have $2,120 to either add to or purchase a new stream of revenue in the form of a dividend growth stock. At a 3% yield, every $2,000 invested adds about five dollars per month of new income to invest, starting with the next dividend. And then that $5 grows to $5.35 per month the next year when the company raises their dividend by my assumption of 7%. And so on. Of course most companies pay dividends on a quarterly basis, but you get the idea.

Not the easiest thing in the world to model. But I did so with the following assumptions:

Starting Principal

$ 28,750

Initial Yield

3%

Dividend Growth Rate

7%

Monthly Additions starting Month 2

$2,000

Number of $2,000 additions

40

Dividends paid every month

All dividends reinvested

Plugging all of these into Excel and running the formulas out to July 31, 2027, I arrive at a number that is pleasing to me: $722 of dividends collected that month. Now the dividends collected in year 10 only add up to about $8,500, a little less actually. But I think a yield of 3%, while reasonable, is very achievable. In fact, my portfolio yield the last time I looked was 3.1% and that is with one position yielding less than 1% and several hovering right around 2%. Most stocks that I add will either yield at least 2% or have dividends growing by double digits, or both. So perhaps $10,000 is a stretch, but I think it is a good goal.

How this will change my monthly reporting

I will report my beginning and ending balances, report dividends collected and the change in market value, and for purposes of total return I will exclude the $2,000 additions and any dividends or distributions received from any source other than my Dividend Growth stocks. I’m not 100% sure exactly how that will look yet, but I’ll come up with something that is hopefully easy to read.

I will continue to present the dividend table so that I can track all of my dividends and how quickly they are increasing on a monthly and quarterly basis. Hopefully once the monthly $2,000 starts rolling in this report will get exciting in a hurry.

I’ll present the current positions for all of my stocks: Symbol, Quantity, Closing Price, Market Value, Annual Dividend, and Yield.

I’ll give you my current Sector Weightings across all eleven sectors plus cash with the goal of keeping them somewhat equal, though of course they won’t always be depending on market conditions.

All of those metrics I have presented in the past. And now I will add another table, that will look something like the table I presented above:

40% S&P 500 Index $ 67,500
Existing Stocks 28,500
10% Small/Mid Cap Fund 24,000
10% International Fund 24,000
40% Fixed Income Funds 96,000

Of course over time the value of the S&P 500 Index fund will get smaller over time and the Individual Stocks value will grow, but the goal is to keep the sum around 40% of the total portfolio.

Conclusion

Things are about to get very interesting. I am going to be making some big changes to the Sand In Shoes portfolio and they are going to be made in a hurry. I’m looking forward to seeing all of the changes as they unfold and I can’t wait to write the next monthly update to set the new baseline. I hope you all join me as we work towards the goal of financial independence. As always, thank you for reading!

Disclosure: I am/we are long BLK, T.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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