Recommendations
•401(k) Max out all contributions at $14,000 per individual. This would total $28,000, lowering the couple's tax base to $108,900.
•Cash For emergencies, it's generally recommended to keep enough capital to cover one to three months of living expenses (in this case $6,000 to $7,000) in investments that are relatively easy to access, such as money market accounts.
•College savings To achieve $40,000 per year (the general rate for tuition and expenses these days) a total of $1,850 a month would have to be invested. This is an aggressive target and, based on individual needs or expectations, could be adjusted higher or lower.
Investment Structure
•Retirement account With 17 years until retirement, recommendation is for $28,000 per year allocated into 401(k).
•Diversification Based on the couple's moderate risk tolerance and time horizon, strategic diversification is key. Mr. Ramirez recommends a portfolio of mutual funds because individual equities would be too volatile and would not allow for a fully diversified portfolio.
Identifying the risk profile and quality of various mutual funds can be achieved by reviewing the fund's style of investing, strength of the portfolio manager or team, and past performance on a 3-, 5-, and 10-year basis, as well as looking at the fund's volatility. Ideally, the fund should have a strong, tenured management team that has produced consistent returns during different market cycles. To assess a fund's volatility, Mr. Ramirez cites the "beta" – an estimate of an investment's volatility that is compared to its benchmark index; the lower the beta, the less volatile the investment. Analyzing fixed-income mutual funds is, for the most part, similar; however, the average maturity of the portfolio and credit quality must be evaluated. These two factors are important in determining the potential volatility of the fund.
•Additional savings $230.25 per month ($2,763 per year). Ultimately, this is a little tight and may be adjusted based on individual preference. This money could be used to purchase additional life or disability insurance. With the future needs of the children, having such insurance is very important.
Term insurance – although the least expensive initially – is not a permanent solution; a whole-life policy would be preferable because it provides a permanent solution and cash value over time.
Allocation Proposal
50 PERCENT IN EQUITIES
25% Large-Cap Value
25% Large-Cap Growth
20% Mid-Cap Blend
20% Small-Cap Blend
10% International
50 PERCENT IN FIXED INCOME
45% Preferred
45% Corporate Bonds
10% Cash
INVESTOR PROFILE #2
Successful business owner, 47 years old, married, college educated. Business has average annual revenues of $7 million; line of credit available from lending facility; no outstanding debt; annual profit margin of 15 percent. Average total household income is $400,000. The business owner and spouse own their own home, valued at approximately $1 million, as well as vehicles. They have two children already in college, with financing already set. Their investment portfolio value is $90,000 in a broad variety of instruments including mutual funds and equities. They currently have $10,000 available to invest, and also have equity in life insurance. The couple's risk tolerance is moderate, with an investment time horizon of 15-plus years.
