Is Your House a Home, Or Is It an Investment?

Q In a recent article about asset allocation, several investment advisers recommended that an average investor today should keep 40 percent of assets in stocks, 50 percent in bonds, and 10 percent in cash. For many people, this recommendation leaves out several important assets, including one's home and the value of Social Security income.

Specifically, if one had $400,000 in liquid assets and a house (paid for) worth $200,000, should the value of the house affect the allocation of assets between stocks, bonds, and cash?

- A.T., DeLand, Fla.

A "Investment advisers are of two thoughts," says Tim Schlindwein, of consulting firm Schlindwein Associates, Chicago. In most cases, he says, "a home is treated as shelter," to be dealt with outside the overall investment portfolio. Usually, you would not want to take any financial risks that might involve your home. That is particularly important given real estate gyrations in California, New York, Massachusetts, New Jersey and other markets during the past decade, when home prices took a sharp plunge.

On the other hand, if the home is in a stable (or well-to-do) market, or you have deliberately put a substantial amount of income in the home for investment purposes, then "clearly, the wealth in the home must be factored into your overall financial plan," he says.

Some consultants argue that if the market price and your equity are virtually assured, then you might have greater freedom to take risks with your cash, such as buying aggressive growth stocks. Monitor your local real estate market closely, though. Home prices are harder to track than those for stocks and bonds, and weakness may go unnoticed.

Real estate can be an important investment, Mr. Schlindwein says. While he recommends that a typical investor should have around 18 mutual funds covering diverse areas (nine bond funds, nine stock funds), another option is an REIT (Real Estate Investment Trust) fund. REIT funds performed well last year and the first half of this year.

Q I'm 30. Is there a formula that I can use to determine how much I need to save if I want retirement income (from investments) of say $30,000 a year?

A First, let's assume you want to factor out inflation, so we're talking about future income equivalent to $30,000 in today's dollars. According to Richard L.D. Morse, professor emeritus of family economics at Kansas State University, you would need a nest egg between $408,000 and $491,000 to receive payments of $30,000 a year, starting at age 65, for 20 years. This assumes very conservative rates of return: 5 to 7 percent before inflation (2 to 4 percent after). If you get a bit more aggressive with your investments - stock funds, for example, average about 10 percent a year - you'll need a smaller nest egg. Saving $5,323 to $9,620 a year until you reach 65 will hit Mr. Morse's targets.

Want to get more precise? Morse uses this formula:

PV = PMT [{1-(1+%i/100)n}/(%i/100)].

PV is the present value of the future nest egg; PMT is the $30,000; %i is the annual percent of return; n equals the number of payment periods.

Morse uses another formula to determine how much to save annually:

PMT = FV/(1+%i) [{(1+%i/100)35-1}/(%i/100)]. FV is "future value," such as the $491,000.

Fortunately, most small inexpensive hand-held calculators have the formulas built right into their software, which saves you a lot of math grief. The calculators come with directions.

Q The Monitor recently published a story about municipal bond mutual funds. But while "muni" bonds have always been considered safe investments, should I be concerned about defaults like the one in Orange County (California) recently?

- L.M.

A If you are skittish about investing in a municipal bond fund, try an insured municipal bond fund. One of the best-performing is the Vanguard Municipal Bond Fund Insured Long-Term (800-523-8552). The fund has more than $2 billion in assets and a minimum investment of $3,000 ($1,000 for an Individual Retirement Account). A spokesman says the fund now owns 241 bonds, with average maturity of 12.9 years. Through June 30, total return this year has been 2.7 percent, but that's free of federal taxes. Fund officials increase the safety of the fund by insuring individual bond issues. So a AA rated municipal bond with insurance gets upgraded to a AAA rating. If the bond issuer defaults, the insurance pays off the principal. Curiously, the fund's 0.2 percent expense ratio matches that of Vanguard's un-insured Long Term Municipal Bond Fund.