Managing Volatility with the 3 Bucket Strategy

With the recent market volatility, we felt it is an opportune time to revisit the value of building and remaining committed to a financial planning strategy. At TSG we believe that building a tailored financial plan, aligned with your personal financial goals, is the best course through a storm of uncertainty. We incorporate financial planning fundamentals into our client portfolios to help manage volatile events, such as those being seen in the current market. In volatile times our goal is to help our clients avoid the lure to liquidate all their assets into more conservative investments. While doing so may solve their short-term stress, this leads to lower returns over their 20-30 year retirement time frame, eroding their future retirement income and creating a short fall in retirement funding.

One of our tools our office employs is our "3 Buckets" approach for clients who are retiring or planning to withdraw significant amounts from their investment accounts. This approach splits the client’s investable assets into three portions or “buckets” each with a specific investment objective.

The first bucket is the funds the client expects to withdraw over the first two to four years and is conservatively invested such as in fixed income. The following chart highlights examples of how a client with a low risk investment (e.g., PIMCO Monthly Income, CI Alternative Diversified Opportunities, Lysander-Canso Corp Value Bond , or Fidelity Income Allocation) year to date have achieved positive returns in the first bucket.

The second bucket is the funds the client expects to withdraw during years three to seven years and is invested in a low-medium risk portfolio. This bucket has a longer timeframe than the first. As shown in the chart below, we use the example of Mawer Balanced and Capital Group Global Balanced relative to the main stock market index of the S&P 500. While this bucket allows for some investment growth opportunities with the usage of fixed income within these portfolios tends to help provide more moderate volatility.

The third bucket is the funds the client expects to withdraw in 7+ years and is invested in a growth portfolio to ensure there is sufficient growth for the client’s needs later down the road. This investment bucket embraces more volatility, but the extended time horizon allows the opportunity to recover from volatility and benefit from long-term market growth.

Every market correction is different, so there is no perfect way to predict every possible event. However, this 3 Bucket approach was modelled on the idea of “lost decades”. The term “lost decade” being used to describe a lengthy period of economic downturn. An example being the 2000s, which started with the tech crash of the early 2000s, and by the time markets had fully recovered for 2007, the 2008 market crash took place where markets lost over 50%. We use this example to illustrate the 3 Bucket approach in the charts below. The teal line represents a fixed income portfolio “low risk bucket” and the dark line represents a low-medium portfolio. The orange line represents the US equity markets which growth portfolio attempt to outperform.

2000's Tech Crash

2008 Financial Crisis

Standing at the start of each graph, a client would be drawing the required funds from their first bucket for the first two to four years, and following the teal line would show that the funds would have remained relatively consistent and available to use. For the second bucket over years three to seven, retirees would be drawing the required funds from their second bucket. Following the dark line the investments would have recovered after the market event so that the funds would be available to use.

By the time the second bucket is depleted, we would see investors with a positive market rate of return along the orange line where they can re-draw out assets to replenish the two buckets which would allow us to repeat the process for the 2008 market correction. If investors follow their financial plan, they increase the likelihood of seeing a successfully funded retirement.

In volatile times, it is important to remember that on average, the markets are not always in crisis. By operating with this 3 Bucket approach, clients can rely on their financial plan and avoid the urge to sell during down markets. It has been proven impossible to always time the market perfectly and often the best market return days happen during negative market corrections. Using this approach allows investors to remain fully invested therefore receiving the best possible long term rate of growth needed to fight off the impact of inflation on their financial plans.

We are here to support you in achieving your financial goals. If you require any assistance or have any questions please do not hesitate to reach out to Cliff, Mario, Mark, or our TSG team.