Reader Ham asked a great question last week about Vanguard’s LifeStrategy funds. These funds offer an excellent way of buying a diversified market portfolio using index funds, without the faff of managing the portfolio yourself or the expense of paying someone else to do it for you.
Ham wanted to know how easy it is to increase your bond allocation in the LifeStrategy funds as your biological clock ticks towards retirement.
The answer is it’s quite straightforward, if a bit fiddly, and it may well save you a lot of pain in later life.
Nudging your portfolio’s asset allocation towards bonds as you age is a widespread investing practice known as lifestyling. It steadily reduces your exposure to risky equities to reflect how you’ve ever less time left to recover from stock market falls.
By employing lifestyling, you’re less likely to be one of those case studies in the newspapers’ money pages, grimacing beneath the headline: “I lost half my pension 6 months before retirement and must now stack shelves until I’m 102”.
Lifestyling in action
A well-known rule of thumb is to hold an equity allocation equal to your age subtracted from 100, with the remainder held in bonds.
For example, a 40-year-old would hold 60% in equities and 40% in bonds. (Hmm, I just wrote ‘and 40% in bones’, a Freudian slip if ever there was one).
On hitting 41, a passive investing lifestyler would respond by raising his bond allocation to 41% while winding down his equities allocation to 59%. And then perhaps a little party (with hats) and a quick look at Oil of Olay products online.
Keep up the lifestyling and by the time our surprisingly smooth-looking hero reaches 60, his asset allocation will be a less volatile 40% equities and 60% bonds.
Stuck in time
As Monevator reader Ham recognised though, the Vanguard LifeStrategy funds have a static asset allocation – your equities / bond mix is effectively frozen in aspic.
Invest in the Vanguard LifeStrategy 60% Equity Fund at age 40 and you can rely on it to still be rebalancing you back to 40% bonds by the time you’re 60, even though a 60% bond allocation might be more appropriate.
Vanguard in America offers target retirement funds that automatically lifestyle your assets for you. We’re a bit behind the curve as always in the UK.
It is possible however to lifestyle manually for only a little bit more effort.
The trick is that instead of investing in one fund, we must invest in two [swoons with shock].
To continue our example above, our age-defiant investing role model would start out 100% in the Vanguard LifeStrategy 60% Equity Fund but would gradually raise his bond allocation by increasing exposure to the Vanguard LifeStrategy 40% Equity Fund.
This is the lifestyle
Our Vanguard LifeStrategy fund lifestyling strategy works like this:
|Age||Fund||Fund allocation||Portfolio equities/bond split|
|40||LifeStrategy 60% Equity Fund||100%||60:40|
|LifeStrategy 40% Equity Fund||0%|
|45||LifeStrategy 60% Equity Fund||75%||55:45|
|LifeStrategy 40% Equity Fund||25%|
|50||LifeStrategy 60% Equity Fund||50%||50:50|
|LifeStrategy 40% Equity Fund||50%|
|55||LifeStrategy 60% Equity Fund||25%||45:55|
|LifeStrategy 40% Equity Fund||75%|
|60||LifeStrategy 60% Equity Fund||0%||40:60|
|LifeStrategy 40% Equity Fund||100%|
All you need do is annually invest an additional 5% of your total portfolio in the Vanguard LifeStrategy 40% Equity Fund to achieve the required 1% lifestyle uplift in your bond allocation per year.
At age 42, 10% of our hero’s portfolio would be in the 40% Equity Fund, at 43 it’s 15% and so on until by age 60 he’s 100% in the bond-biased fund and preparing to spend the lot on experimental stem cell regenerative injections.
Notes on this lifestyling LifeStrategy
- Include new contributions as well as your current assets when calculating your 5% annual shift.
- The two funds will grow (or shrink!) at different rates so you’ll also need to rebalance.
- Vanguard funds are only available through a limited number of outlets.
- You’ll pay a dealing fee to Alliance Trust every time you buy and sell a fund but get off Scot-free with Bestinvest – except Bestinvest charge higher annual fees! So the best option depends on your trading habits and account needs.
- Aside from these cost concerns, switching between the two funds in an ISA or SIPP shouldn’t be an issue.
Our lifestyling strategy holds true for any two LifeStrategy Funds that sit on adjacent rungs of Vanguard’s equity / bond allocation ladder. As long as you shift 5% of your assets per year into the next bond-skewed fund along, then you’ll lifestyle your funds on time and reduce your exposure to risk.
Take it steady,