How I Invest My Own Money

Written by John Macy, Financial Coach, MBA, Retirement Income Certified Professional® (RICP)

Introduction

Many investors wonder how financial professionals invest their own money. Do they simply buy index funds? Do they use alternative investments? How much risk do they take? Today I'm opening the hood on my own family's portfolio and explaining not just what we own, but why we own it.

In my recent post, True Diversification: What Most DIY Investors Get Wrong About Building a Portfolio, I talked about the danger of "false diversification." Too often, investors think they are diversified because they own ten different mutual funds, only to realize during a market downturn that all ten funds are essentially driven by the exact same underlying risks and economic factors.

True diversification means combining several diverse asset classes that respond differently in various economic environments (high inflation, low inflation, growth, recession). It means looking beyond just traditional stocks and bonds to build a resilient portfolio that can weather inflation, interest rate shocks, and market volatility.

As a financial coach, I help clients build resilient portfolios. But today, I want to pull back the curtain and show you exactly how I apply these concepts to my own money.

A Quick but Important Caveat: What follows is how I invest my own family’s portfolio. This is not investment advice -- it is not a recommendation for how you or any other specific investor should invest. Personal finance is deeply personal. My portfolio is built around my family's specific age, risk tolerance, financial situation, tax situation, and goals. You may, and probably should, choose to invest differently. Always align your investments with your own unique financial blueprint.

The Big Picture: Our Current Financial Phase

My wife and I are currently semi-retired. Because we are in a phase where we are balancing a relatively small amount of ongoing earned income with a desire for reliable portfolio income, our strategy is heavily focused on cash flow, inflation protection, and uncorrelated returns. We have chosen to delay taking Social Security until age 70 for the higher earner (in 5-6 years) and age 62 or 63 for the lower earner (in a couple of years). We are currently receiving a small pension and also have sufficient portfolio distributions to fund our current livestyle without Social Security. Our expected Social Security income plus the small pension should cover all of our non-negotiable expenses, creating a reliable income floor for our essential spending needs. Once Social Security begins our portfolio will primarily fund discretionary expenses like hobbies, travel, eating out, gifts, etc. Thus, we can afford to take somewhat more market risk than many retirees because we expect our essential expenses to be fully covered by guaranteed income sources within about five years. At the same time, we do not need to maximize returns to achieve our objectives, so we have chosen a diversified portfolio designed to balance growth, income, and resilience.

A Look Inside the Portfolio

To achieve true diversification, my portfolio is divided into a number of distinct buckets, moving well beyond a traditional 60/40 stock/bond mix. Here is a breakdown of our current asset allocation and how I think about each piece of the pie.

As described in the table below, each of the major asset classes has a purpose and a "mission" within our broader portfolio.

Asset Class	Allocation	Primary Purpose
Equities	49%	Long-term growth
Real Assets	21%	Inflation protection & income
Private Credit	13%	Income generation
Fixed Income	14%	Stability & liquidity
Managed Futures	5%	Crisis diversification

The key idea is that these asset classes are driven by different economic forces and have relatively low correlations with one another, helping reduce the portfolio's dependence on any single market environment.

1. Equities — US Dividend Growth/Value Stocks, Growth Stocks, and International Stocks (49%)

All of our equity exposure is through mutual funds and ETFs -- we own no individual stocks. I am currently using some of our incoming cash flow (primarily reinvesting dividends and interest) to build up our International Stocks bucket. This international stock bucket includes both developed and emerging markets funds. Expanding our geographic footprint is a core tenet of true diversification, ensuring we aren't so reliant on the U.S. economy. Both the Dividend Growth/Value Stocks category and the International Stocks category are slightly overstated due to the fact that a couple of balanced mutual funds included in these categories have about 35% of their investments in bonds.

2. Real Assets — Real Estate & Infrastructure (21%)

Real assets provide some portfolio diversification and often serve as a natural hedge against inflation.

• Real Estate:  In the past, we owned a direct rental property and several publicly traded REITs (Real Estate Investment Trusts). Over the past couple of years we sold our rental property and transitioned our real estate exposure entirely into several private real estate funds which invest in a mix of multi-family apartment complexes, light industrial, manufactured housing communities, self storage, office, etc. The tradeoff in using private funds is reduced liquidity, which we're comfortable accepting because we maintain substantial emergency reserves, have no need to access these funds in the near future, and the funds throw off substantial cash flow every month or quarter.

• Master Limited Partnerships (MLPs):  We hold a couple of publicly-traded MLPs that provide robust, tax-advantaged cash flow through investments in essential infrastructure assets that keep the global economy functioning, including energy infrastructure, utilities, communications networks, and transportation systems.

3. Private Credit (13%)

This category includes private credit and asset-backed lending funds:

• Private Credit via BDCs:  We hold several high-quality publicly-traded Business Development Companies, which are essentially publicly traded vehicles that act as private credit lenders to middle-market businesses. They offer higher yields and mostly feature floating-rate loans that protect against rising interest rates. Private credit can experience defaults and periods of stress during economic turbulence and recessions. However, over time they generally provide attractive equity-like returns.

• Asset-Backed Securities (FI - ABS):  This bucket includes two specialized private credit funds. One is an esoteric asset-backed securities fund, and the other is a senior-secured, relatively short-term real estate lending fund.

4. Fixed Income (14%)

Our Fixed Income bucket includes preferred stocks, bonds, and money market funds. They provide some portfolio diversification, ballast in the midst of economic storms, and some current income.

• Preferred Stocks (FI - Pref): Currently we have roughly 5% in several publicly-traded preferred stocks, but we are decreasing that allocation over time.

• Bonds (FI - Bonds):  Currently we have a mix of nominal bonds and TIPS bonds, with the majority in nominal bonds. We own a small amount of nominal bonds directly, with most of our bond exposure coming through three balanced mutual funds that we own (in which about 35% of the funds are invested in bonds), as well as a small but growing TIPS bond ladder. The Bonds category is slightly understated due to the fact that a couple of mutual funds included in the stocks category all have about 35% of their investments in bonds.

• Cash: This is primarily in money market funds, with a small portion in checking and savings accounts. The checking and savings accounts are for everyday cash flow needs. The money market funds are our emergency funds as well as sinking funds for house repairs and maintenance, a car fund, a vacation fund, etc. I think of the Cash as part of our "Fixed Income" bucket.

5. Managed Futures (5%)

If you read my previous article on "True Diversification", you know how crucial it is to own assets that have very low (or even negative) correlation to the stock and bond markets. While real assets and fixed income provide some equity market diversification, Managed Futures have much lower correlations to the stock market and provide much better diversification.

In 2022, both stocks and bonds declined simultaneously, catching many investors by surprise. That has also happened several other times in the past. Managed futures were one of the few major asset classes that generated positive returns during the difficult market environment of 2022, when both stocks and bonds struggled simultaneously, illustrating how assets driven by different economic forces can help stabilize a portfolio when traditional assets struggle. While they won't outperform every year, their ability to perform well during certain crises and difficult economic environments makes them a valuable diversifier.

Unlike commodity speculation, managed futures strategies are systematic trend-following approaches that trade across dozens of global markets (global commodities, currencies, equities, and bonds) and have historically exhibited very low correlation to traditional stocks and bonds. Unlike traditional stock funds, managed futures strategies can take both long and short positions across a wide range of asset classes. This allows them to potentially profit from persistent market trends whether prices are rising or falling.

Managed futures can act as a portfolio "shock absorber" while still generating competitive long-term returns. Because of their low correlation to traditional assets, they have the potential to improve a portfolio's risk-adjusted performance when used as part of a broader diversification strategy. At only 5% of our portfolio, the current allocation is smaller than I would prefer, limiting the diversification benefits that managed futures can provide within our specific portfolio. My primary goal right now is to reinvest most of our dividends and interest in retirement accounts to increase our managed futures allocation to at least 10+% of our total portfolio over the next couple of years (ideally I would like it to reach 15-20% of our portfolio).

What I'm Changing Right Now

Over the next couple of years, I expect several preferred stocks and a nominal bond to mature or be called. As those funds become available, I plan to:

• Increase our investments in managed futures

• Add another rung to our TIPS ladder

• Continue building our international stock exposure

• Gradually reduce our preferred stock exposure

These changes are intended to improve inflation protection, reduce portfolio volatility, and reduce reliance on U.S. stock market returns.

Aside from these intentional allocation shifts, we rebalance the portfolio when allocations drift materially from our target ranges, mostly by reinvesting dividends and interest in the asset classes that we need to increase.

As noted above, one of the primary risks in our current portfolio is that a meaningful portion of our assets are invested in relatively illiquid private investments. We are comfortable with that tradeoff because our pension, future Social Security benefits, cash reserves, and regular portfolio income provide ample liquidity for our expected spending needs.

Asset Location

Choosing the right investments is only half the battle. Equally important is deciding where those investments should be held. One of the most important (and overlooked) aspects of portfolio management is asset location — deciding which accounts hold which investments to maximize tax efficiency and match time horizons for the use of the funds. So how have we implemented Asset Location in our portfolio?

The bulk of our income-producing assets are held in my retirement accounts and our joint taxable accounts, where they can generate the cash flow we use to fund our lifestyle today. We do hold some dividend growth ETFs in our taxable brokerage account which is not ideal, but they are reasonably tax efficient due to the qualified dividend/long-term capital gain treatment. The private real estate funds are highly tax efficient and are held in our taxable accounts, even though they throw off a decent amount of cash flow. One of the asset-backed securities funds is also surprisingly tax efficient, even though it produces significant cash flow, so it too is held in our taxable accounts. The senior-secured real estate lending fund produces ordinary income, but it benefits from favorable tax treatment through the Qualified Business Income deduction. It currently resides in our taxable account largely because of where the available investment capital was located when we made the investment. The BDCs and MLPs and managed futures are all held in our retirement accounts, as are a number of the dividend growth ETFs and mutual funds. MLPs can create a tax trap because of what is called Unrelated Business Taxable Income (UBTI). UBTI can cause a retirement account to have to file a tax return and pay taxes on that income, but there is a minimum threshold below which investors do not need to file the UBTI tax return and I have kept our MLP holdings under that threshold.

Because my wife is younger than I am and likely has a longer life expectancy than I do, her retirement accounts naturally have a longer time horizon before we need to tap them for Required Minimum Distributions (RMDs). Therefore, we hold the vast majority of our growth stocks in her retirement accounts.

Perfection in asset location (as well as asset allocation) is not required, but getting things approximately right is very helpful in reducing the tax drag on your portfolio and improving overall after-tax returns. Read this article for guidance on using asset location to improve your tax efficiency.

The Takeaway

The goal of this portfolio is not to maximize returns. If that were my objective, I might simply hold a much larger allocation to growth stocks.

Instead, the goal is to create a portfolio that can:

• Generate reliable income to fund our retirement lifestyle

• Keep pace with inflation

• Survive a variety of economic environments and shocks

• Allow us to sleep well at night

That's what true diversification means to me.

No portfolio is perfect, and mine certainly isn't. But it is intentionally designed around our goals, our income needs, and the risks that matter most to us.

Your portfolio may look very different—and that's perfectly fine. The best portfolio is not necessarily the one with the highest return, the lowest volatility, or the most sophisticated investments. It's the one that gives you the greatest confidence that you'll be able to achieve your goals while staying invested through whatever markets may bring.

If you would like assistance in designing your own diversified portfolio around your goals and objectives please visit www.flourishingpathfinancial.com/book-online to schedule a free introductory consultation.

Author:  John Macy, MBA, RICP®

John Macy is a professional financial coach and the founder of FlourishingPath Financial Coaching. With over six years of experience as a financial coach, John helps pre-retirees and retirees design resilient portfolios and income streams for their next act. Read his full story here.