The Three-Bucket Strategy: How to Sleep Well While Spending Your Nest Egg
The Three-Bucket Strategy: How to Sleep Well While Spending Your Nest Egg
EXECUTIVE SUMMARY
- The Psychology: Retirees hate selling stocks in a bear market. It feels like “eating the seed corn.” The Three-Bucket Strategy solves this by ensuring you never have to sell stocks when they are down.
- The Structure: You divide your money into Time Horizons. Bucket 1 (Cash) covers 2 years of bills. Bucket 2 (Bonds) covers years 3-10. Bucket 3 (Stocks) is for year 10+.
- The Result: When the market crashes, you ignore Bucket 3 and simply spend from Bucket 1. This “permission to ignore the crash” prevents panic selling.
Mathematics says “Total Return” is all that matters. Human beings say “I need to know where my grocery money is coming from.” The Three-Bucket Strategy is less about maximizing returns and more about maximizing peace of mind. According to Team BMT Analysis, this is the most popular strategy among real-world retirees because it aligns your portfolio with your actual cash flow needs. Source: Harold Evensky (Wealth Management Methodology)
Scenario: You need $50,000/year. Portfolio $1M.
- Bucket 1 (Now): $100,000 in High-Yield Cash (2 years of expenses).
Goal: Sleep at night. Liquid. Zero Risk. - Bucket 2 (Soon): $300,000 in Bond Ladder / T-Notes (Years 3-8).
Goal: Inflation protection and income generation. - Bucket 3 (Later): $600,000 in Global Stocks (Year 9+).
Goal: Long-term Growth. Volatility is irrelevant here because you won’t touch this money for a decade.
Crash Defense Comparison
| Strategy | Panic Level in -20% Crash |
|---|---|
| Single Fund (60/40 Portfolio) | High (Watching total balance drop) |
| Three-Bucket Strategy | Low (Watching Bucket 3 drop only) |
*Chart Note: The Bucket investor knows their next 2 years of income (Bucket 1) are untouched by the crash, reducing the urge to panic sell.
CRITICAL SCENARIO: The “Refill” Problem
When to move money?
| Market Condition | Action |
|---|---|
| Bull Market (Stocks Up) | Sell Bucket 3 (Stocks) to refill Bucket 1 & 2. |
| Bear Market (Stocks Down) | Do Nothing. Spend down Bucket 1. Then spend Bucket 2. Wait for Bucket 3 to recover. |
Execution Protocol
Calculate your “Net Spending Gap” (Expenses minus Social Security).
Bucket 1: 1-3 years of gap. (Cash/CDs).
Bucket 2: 5-7 years of gap. (Bonds).
Bucket 3: Remainder. (Stocks).
Set up an automatic monthly transfer from Bucket 1 (Cash) to your Checking Account. This mimics a salary. Do not manually sell shares every month; sell in bulk once a year to refill Bucket 1.
The danger of Buckets is letting Bucket 1 run dry in a prolonged bear market (Sequence Risk). If stocks are down for 3 years, you must eventually sell Bonds (Bucket 2) to refill Bucket 1. Never sell stocks just to follow a schedule.
Fail Condition: Hoarding too much cash in Bucket 1 (e.g., 5 years). Inflation will destroy your purchasing power. Keep it lean (1-2 years max).
WEALTH STRATEGY DIRECTIVE
- Do This: Use the Bucket Strategy if you are an emotional investor. The mental separation of “Safe Money” and “Growth Money” is a powerful behavioral hack.
- Avoid This: Overcomplicating it with 10 buckets. Three is enough. Cash, Bonds, Stocks. Any more and the accounting becomes a nightmare.
Frequently Asked Questions
Is this just Asset Allocation?
Mathematically, yes. A Bucket portfolio is just a 60/40 portfolio explained differently. But behaviorally, it is distinct because it prevents you from selling the “40” (Stocks) when they are down.
Where do dividends go?
Direct all dividends and interest from all 3 buckets into Bucket 1 (Cash). This creates a natural “refill” mechanism, reducing the need to sell assets.
Can I use a Bond Tent instead?
Yes. The Bond Tent (#407) is essentially a massive Bucket 2 constructed just for the retirement transition. They share the same DNA: mitigating Sequence of Returns Risk.