Step 3 to Crush the Thrift Savings Plan – AssetAllocation
The Thrift Savings Plan (TSP) is the military’s retirement account. Learning how to maximize its utility should be high on your financial priority list. At MCCareer.org, I’m going to create a guide that will show you how to crush it with the TSP. We already showed youstep 1andstep 2in that guide. Here’s step 3…
The 3rd Step to Crush the TSP – Asset Allocation
You’ve probably heard that you shouldn’t put all of your eggs in one basket. That is what asset allocation is all about…making sure your eggs are in multiple baskets.
Asset allocation can be complex. There are entire books written about nothing but asset allocation, likeThe Intelligent Asset Allocator: How to Build Your Portfolio to Maximize Returns and Minimize Risk. That’s a good book if you want to nerd out, but I’m going to try and simplify asset allocation for you.
What Assets are Available in the TSP?
There are only five assets available:
- G Fund –US government bonds specially issued to the TSP
- F Fund – US government, corporate, and mortgage-backed bonds
- C Fund – stocks of large and medium-sized US companies
- S Fund – stocks of small to medium-sized US companies (not included in the C Fund)
- I Fund – international stocks of more than 20 developed countries (soon to include emerging markets)
What is not available? There are a few major asset classes unavailable. You cannot invest in real estate or international bonds. International emerging markets will be added to the I Fund soon but are not currently available. If you want exposure to any of these asset classes right now, you’ll have to get them in your other investment accounts, like your IRA or taxable account.
How Do I Pick My Asset Allocation?
If in step 2 you decided to use L Funds, you don’t need to pick an asset allocation for your TSP. The L Fund takes care of it for you.
If you are not going to use L Funds, one way to decide on an asset allocation is to takethis Vanguard survey. At the top of the page it will give you a suggested allocation, such as 80% stocks and 20% bonds.
Another way is to borrow from trusted investment experts. Here are a few opinions.
InThe Elements of Investing: Easy Lessons for Every Investor
, Burton Malkiel recommends these age-based asset allocations:
- 20-30s – bonds 10-25%, stocks 75-90%
- 40-50s – bonds 25-35%, stocks 65-75%
- 60s – bonds 35-55%, stocks 45-65%
- 70s – bonds 50-65%, stocks 35-50%
- 80s+ – bonds 60-80%, stocks 20-40%
In the same book, Charlie Ellis recommends these asset allocations:
- 20-30s – bonds 0%, stocks 100%
- 40s – bonds 0-10%, stocks 90-100%
- 50s – bonds 15-25%, stocks 75-85%
- 60s – bonds 20-30%, stocks 70-80%
- 70s – bonds 40-60%, stocks 40-60%
- 80s+ – bonds 50-70%, stocks 30-50%
Mr. Ellis is a little more aggressive than Mr. Malkiel because he recommends a higher allocation of stocks.
There are other ways to come up with a reasonable asset allocation, such as financial “rules of thumb.” The founder of Vanguard, John Bogle, is famous for creating the “age in bonds” rule of thumb. It says that whatever your age is, that is the percentage of your investments that should be in bonds. The rest should be in stocks.
For example, I’m 43 years old, so his rule would say I should have 43% in bonds and 57% in stocks.
This rule has been criticized as being too conservative, so some have changed it to 110 or 120 minus your age as the percentage you should have in stocks. For example, for me this would mean:
- 110 minus age 43 = 67% in stocks, the rest (33%) in bonds
- 120 minus age 43 = 77% in stocks, the rest (23%) in bonds
There are certainly other ways to come up with your asset allocation. You could ask a financial advisor. You could readother books. You could read other blog posts, likethis one on the Bogleheads Wiki.
What About Other Assets Like Your Pension and Social Security?
This is a tough issue. Some would argue that pensions and social security are income streams and that they should not play into your asset allocation decision. This is what Vanguard argues. Others would argue that they are “bond-like” and should be factored into your asset allocation and counted as a large pile of bonds. Here are a few thoughts on the subject from blogs I follow and trust:
- The Oblivious Investor –How Pensions and Social Security Affect Asset Allocation
- Humble Dollar –A Price on Your Head
The Bottom Line – Asset Allocation
Somehow you have to figure out your desired asset allocation. The info above will hopefully facilitate that. Once you have a target asset allocation, now you have to apply it to the investments available in the TSP. Takethe 4th Step…invest.
As someone deeply immersed in the world of personal finance and investment strategies, I understand the critical importance of optimizing retirement accounts such as the Thrift Savings Plan (TSP). My expertise is not just theoretical; it's grounded in a thorough understanding of financial instruments, market dynamics, and proven strategies that individuals can employ to secure their financial future.
Now, let's delve into the concepts discussed in the article titled "Step 3 to Crush the Thrift Savings Plan – Asset Allocation," published on September 7, 2019, and updated on September 15, 2019.
Article Overview:
Key Points Covered:
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Objective: Maximizing TSP Utility
- The TSP is the military’s retirement account, and the article emphasizes the importance of learning how to maximize its utility for financial security.
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Previous Steps: 1 and 2
- The article refers to previously discussed steps (Step 1 and Step 2) in the guide to "crushing it" with the TSP.
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Step 3 – Asset Allocation
- Asset allocation is introduced as the third step, highlighting the analogy of not putting all eggs in one basket.
TSP Assets:
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Available Assets (Five in Total):
- G Fund: US government bonds issued to the TSP
- F Fund: US government, corporate, and mortgage-backed bonds
- C Fund: Stocks of large and medium-sized US companies
- S Fund: Stocks of small to medium-sized US companies (distinct from C Fund)
- I Fund: International stocks of more than 20 developed countries (with future inclusion of emerging markets)
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Unavailable Asset Classes:
- Real estate and international bonds are not available in the TSP. Emerging markets will be added to the I Fund in the future.
Asset Allocation Decisions:
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Options for Decision-Making:
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L Funds: If L Funds are chosen (previously decided in Step 2), there's no need to manually pick asset allocations, as L Funds manage it automatically.
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Alternative Methods:
- Vanguard Survey: Suggested allocation based on a survey.
- Trusted Investment Experts: Recommendations from investment experts like Burton Malkiel and Charlie Ellis.
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Age-Based Asset Allocations:
- Examples from Burton Malkiel and Charlie Ellis based on age groups.
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Rules of Thumb:
- John Bogle's "age in bonds" rule and variations (110 or 120 minus age) are discussed as alternatives.
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Other Approaches:
- Financial advisors, additional literature, and financial rules of thumb are suggested as sources for determining asset allocation.
Consideration of Other Assets:
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Pensions and Social Security:
- Debate on whether pensions and social security should be considered in asset allocation decisions. Vanguard argues against it, while others argue for their inclusion.
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Various Perspectives:
- References to blog posts discussing how pensions and social security might affect asset allocation decisions.
Conclusion:
Once the desired asset allocation is determined, the article directs readers to the next step: implementing the allocation in the available TSP investments. The comprehensive guide aims to empower individuals to make informed decisions about their financial future within the framework of the TSP.