When investing, should you focus on income, or total return? I like the idea of living off dividend and interest income, but I also think it is easy for people to reach too far for yield and hurt their overall returns. But what is too far? That’s the hard part. Certainly there are many bad investments lurking out there for desperate retirees looking for maximum income. If possible, I’d like to invest for total return and then live off the income.
A quick and dirty way to see how much income (dividends and interest) your portfolio is generating is to take the “TTM Yield” or “12 Mo. Yield” from Morningstar quote pages. Trailing 12 Month Yield is the sum of a fund’s total trailing 12-month interest and dividend payments divided by the last month’s ending share price (NAV) plus any capital gains distributed over the same period. SEC yield is another alternative, but I like TTM because it is based on actual distributions (SEC vs. TTM yield article).
Below is a close approximation of my most recent portfolio update. I have changed my asset allocation slightly to 60% stocks and 40% bonds because I believe that will be my permanent allocation upon early retirement.
|Asset Class / Fund||% of Portfolio||Trailing 12-Month Yield (10/18/14)||Yield Contribution|
|US Total Stock
Vanguard Total Stock Market Fund (VTI, VTSAX)
|US Small Value
WisdomTree SmallCap Dividend ETF (DES)
|International Total Stock
Vanguard Total International Stock Market Fund (VXUS, VTIAX)
|Emerging Markets Small Value
WisdomTree Emerging Markets SmallCap Dividend ETF (DGS)
|US Real Estate
Vanguard REIT Index Fund (VNQ, VGSLX)
|Intermediate-Term High Quality Bonds
Vanguard Limited-Term Tax-Exempt Fund (VMLUX)
|Inflation-Linked Treasury Bonds
Vanguard Inflation-Protected Securities Fund (VAIPX)
The total weighted yield was 2.31%, as opposed to 2.49% calculated last quarter. This means that if I had a $1,000,000 portfolio balance today, it would have generated $23,100 in interest and dividends over the last 12 months. Now, 2.31% is significantly lower than the 4% withdrawal rate often recommended for 65-year-old retirees with 30-year spending horizons, and is also lower than the 3% withdrawal that I prefer as a rough benchmark for early retirement. Hurray for zero interest rates!
So how am I doing? Using my 3% benchmark, the combination of ongoing savings and recent market gains have us at 90% of the way to matching our annual household spending target. Using the 2.31% number, I am only 69% of the way there. That’s a big difference, and something I’ll have to reconcile. Consider that if all your portfolio did was keep up with inflation each year (0% real returns), you could still spend 2% a year for 50 years. From that perspective, a 2% spending rate seems extremely cautious.