A portfolio designed for a baby boomer’s golden years

Author: John Gerard Lewis, Gerard Wealth

Covestor model: Stable High Yield

Disclosure: Long MO, T, PAA, KMP, AGNC, HTS, Morgan Stanley and Icahn corporate debt.

The youngest of the Baby Boomers turn 48 this year, and so many of them weren’t able to take full advantage of the greatest secular bull market of all time from 1982 to 2000. For much of that period, these youngsters were still getting started. In fact, in 1982 they were just graduating high school. Extra income for investments was probably in short supply as they paid their college tuition and set up their households.

But for many Boomers born before say, 1956, investible funds had arrived by 1982. Most would already have obtained their first home mortgages and begun investing for junior’s college education. If such good habits were, in fact, formed by that time, then they quite likely also began funding their IRAs and enjoying the rising balances in their employee stock option plans. Maybe they opened their own brokerage or mutual fund accounts.

It was a great time to be in the market. The rising tide lifted all boats. It seemed that if you held any assortment of stocks, you did great. The Dow Jones Industrial Average rose more than 1,500% over those 18 years, and astute Boomers who were entering their peak earning years watched their wealth soar.

Of course, there were a couple of jarring bumps along the way. The first came on Black Monday, Oct. 19, 1987, when the Dow fell by more than 22 percent. I know of no one, except for Shearson Lehman’s Elaine Garzarelli, who saw that coming. It was the first of the Boomers’s chastening experiences.

The second was more insidious. The Dot-Com Bubble began to leak, rather than burst, on March 10, 2000. By the time it was all over, the NASDAQ Composite Index had lost 78 percent of its value.

If this second blow hadn’t choked off any investing carelessness, then some of the older Boomers may still be in a building rather than preserving mode. This article is for those who learned well and are in the latter.

If you have sufficient money to live off of your investments, the overriding rule is to not lose the funds that underlie the income. I know, I hear it, too: “I only care about the income, not the principal. If there’s nothing left, that’s my kids’ problem.” First of all, what a lousy way to treat your kids. Secondly, well before you take that last breath you will start caring if your municipal bonds begin defaulting.

Preserving the balance is thus Rule No. 1. From there, the fun of putting together a portfolio on which you can live begins. Here’s what I recommend.

No, you don’t want to be left behind if equities climb while you’re riding off into the sunset. But while it’s smart to own some stocks, they might as well be good dividend payers in case stock prices stagnate over a long time. Altria (MO) and Verizon (VZ) each yield 5.2%, and AT&T (T) yields 5.7%. Analysts expect them to grow by 7%-11% over the next five years, so their fundamentals appear to be solid enough.

Pipeline master limited partnerships throw off healthy dividends as well. Three that have growth expectations of 4%-22% over the next five years are: Plains All American Pipeline (PAA – 5.2% yield), Energy Transfer Partners (ETP – 7.5% yield) and Kinder Morgan Partners (KMP – 7.5% yield).

Treasury and CD rates stink, but you can do better with a carefully selected corporate bond portfolio. All listed below are rated at least BBB.

(Why not bond mutual funds or ETFs? They don’t have fixed maturities – but we older Boomers do have terminal and unknown maturities, and if I suddenly need my principal I don’t want to have to sell a pot of mid-term bonds at a market bottom, especially when bond prices apparently have no place to go but down.)

The best available information is that the Fed will keep interest rates low through 2014, which suggests the luxury of investing a bit further out in order to capture more yield. But allocating 10% to maturities of less than two years gives us some flexibility in case conditions change. Morgan Stanley’s 4.75s due April 1, 2014 throw off a 3.7% yield to maturity. The 6.625s of International Lease Finance are due Nov. 15, 2013 and yield 3.6% to maturity. Not bad returns for keeping some powder dry.

Thirty percent of this hypothetical allocation would go to bonds with up to five-year maturities. These could include: Dresdner Bank’s 7.25s due Sept. 15, 2015 (5.8% yield to maturity); Genworth Financial’s 8.625s due Dec. 15, 2016 (5.6% YTM); SLM Corp.’s 6.25s due Jan. 25, 2016 (5.0% YTM); Countrywide Financial’s 6.25s due May 15, 2016 (4.9% YTM); and Royal Bank of Scotland Group’s 5.35s due Feb. 15, 2017 (4.8% YTM).

A good number of pundits believe that rates could stay low beyond 2014, so going out as far as 10 years for 20% of the portfolio doesn’t seem imprudent. If rates rise, the other 40% invested in bonds can be rolled into higher rates at maturity. Recommendations include: Genworth Financial’s 7.625s due Sept. 24, 2021 (7.7% YTM); Nokia’s 5.375s due May 15, 2019 (7.2% YTM); SLM Corp.’s 7.25s due Jan. 25, 2022; Jefferies Group’s 6.875s due April 15, 2021 (6.5% YTM); and Icahn Enterprises 8s due Jan. 15, 2018 (6.5% YTM and 5.7% yield to worst).

The weighted average yield for this bond portfolio (if all recommendations are bought in equal parts within their maturity category) is 5.5% with a weighted average maturity of 5.1 years. A nice average yield and holding period.

A 10% allocation to a couple of mREITS can add a little juice to your yield. Put it in American Capital Agency Corp. (AGNC) yielding 16.3%, and/or Hatteras Financial Corp. (HTS), that yields 12.4%.