This will be the first in what is likely to be a long, but intermittent, series of posts designed specifically for the military physician. As a former military physician, I'm well-aware of the huge financial benefits of being in the military (primarily lower taxes) and the just as huge financial drawbacks (primarily lower pay.)
Military docs are basically limited to 4 retirement plans:
- The military pension (stay 20 years, get 50% of your base pay indexed to inflation for life, plus Tricare)
- Roth IRAs/Backdoor Roth IRAs
- SEP-IRAs/Solo 401Ks for moonlighting money, and
- The Thrift Savings Plan (TSP), the government's version of the 401K.
The TSP is a wonderful, low-cost, index fund-based plan which will soon have both a traditional and a Roth 401K option. One of the funds available within it, the Government (G) Fund, deserves special recognition. It's hard to get excited about it given our current low yield environment, but I'm confident that when you understand its benefits, you'll include it in your retirement portfolio. Here are the benefits:
G Funds Have Very Low Cost
Like the other TSP funds, huge scale allows for an expense ratio less than 0.03%, or basically a quarter for every $1000 invested. That makes Vanguard's ERs look downright expensive.
No Interest Rate Risk
Like a savings account or a money market fund, there is no interest rate risk. You cannot lose (nominal) principal in this fund. It only goes up. The yield is the return. If rates go up, most bond funds lose principal. Not so with the G fund. Of course, when rates go down, you don't gain principal, but you can't have everything good and nothing bad in an investment.
No Credit Risk (well, very little)
The entire fund is composed of very short-term loans to the US Government. Despite recent events (include a credit downgrade), this is still the safest entity in the world to loan money to. Not only does the US have the world's strongest economy and strongest military, but it also possesses the ability to raise taxes and even print money out of thin air, unlike corporations, state and local governments, and even many foreign countries. No, it isn't FDIC insured, but it is insured by the full faith and credit of the US Government, which is what stands behind the FDIC anyway. Even a typical money market fund lends money to corporations and other less credit-worthy institutions.
G Fund Outpaces Inflation (traditionally)
Investments with risk profiles similar to the G Fund, such as savings accounts, T-bills, and money market funds have traditionally kept pace with inflation. But due to its unique structure, the G fund has actually bested it. From the origin of the fund in April 1987 through December 2010, inflation has basically cut the value of a dollar in half. But a dollar invested in the TSP back in 1987 is now worth $4. It's not Apple, but it is better than inflation.
G Fund Has Moderate returns
The returns for the G Fund are determined by the average yield on US treasury bonds with a duration of longer than 4 years. But since there is no interest rate risk (which you would have if you held all these long-term treasuries directly), you're getting a free lunch. Long-bond yields for money market risk. Given our current low-yield environment, even long-bond yields aren't very impressive. In fact, this month the G Fund is only paying 1.625%, well less than inflation. But consider the alternatives with similar levels of risk:
- Vanguard Prime MMF currently yields 0.03%. The Treasury MMF yields 0.01%. That's right. 0.01%. If Adam (of Adam and Eve fame) had invested his money at 0.01%, he would not yet have doubled his money.
- The average savings account in the US is paying 0.14%. Even the highest yielding accounts are only in the 0.8-0.9% range.
- 5 year CDs are averaging 1.14%, although I did manage to find a few that have similar yields to the G Fund.
So, your options are to take the G Fund, which you can exchange tomorrow for something else without penalty, or you can lock your money up for 5 years for the same return. That 1.625% isn't looking too bad now, is it. When interest rates return to “more normal” levels, that return will be quite a bit higher. The average return on the G Fund since inception is 5.86%. I wouldn't expect that going forward, but I would expect it to slightly outpace inflation over the long run. Non-military physicians may have access to similar funds in their 401Ks, called stable value funds, which generally have higher than money market yields, without risk of loss of principal. However, these are not quite as safe as the G Fund.
In short, the G fund is a great addition to the TSP. It offers a place for the cowardly to avoid any kind of market risk and yet still outpace inflation with their savings. It also deserves a place in a multi-asset class portfolio. My G Fund allocation provided “dry powder” for me to rebalance my asset allocation in Fall 2008, facilitating “buying low” in the riskier funds. The less risk you take on the fixed income side, the more you can take on the equity side. You can't get much less risky than the G Fund, and its free lunch bonus return makes that deal even better.
Along the lines of your increased willingness to take risk in equities due to the safety of your bond allocation I think that anyone who is planning on retiring from the military can afford to have the remainder of their retirement savings all in equities. If all goes according to plan I will retire as an O-5 with 25 years at a minimum (still a ways off though and O-6 will be a possibility). In today’s dollars that will be $50,000. Using the 4% rule for drawing on income from retirement assets I value that $50,000 a year to be the equivalent of $1.25 million in inflation protected government bonds. This doesn’t even include the value of the health insurance. My military pension is essentially my bond allocation and my TSP and IRA can be focused on stocks.
However, I don’t recommend this method for people in their first few years of service as they may not know if they are going to stay in for the full 20 years. Only about 15% of people who serve retire with a pension. Younger members of the military can go all stock at such a young age if they choose, but if they leave the military without a retirement then an update to their asset allocation is definitely in order.
While not an unreasonable approach, it’s important to recognize that many investors do not have the temperament to avoid selling out a highly volatile 100% equity portfolio at market lows. Your approach also makes the assumption that stocks will always outperform bonds over the long run. While likely, that isn’t a given. Hedging the bet with some bonds isn’t unreasonable. Plus, given the pension, a military doc staying til retirement probably has less NEED to take risk. It doesn’t seem wise to run a risk you may not even need to run. Don’t continue playing a game you’ve already won.
Developing a personal asset allocation you can stick with for the long term is an important step for every investor, even a military physician.
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I have always treated my TSP as a separate account (just used the lifecycle fund). Now I want to bring it into my overall asset allocation. I have about 70/30 equities/bonds, with almost all my bonds currently in vanguard total bond ETF (BND). What % do you think the G fund should make of the fixed income part of a portfolio?
Is there an RSS feed along with the 100 % posts as an alternative of just the teasers?
Sign up for RSS here: http://feeds.feedburner.com/TheWhiteCoatInvestor
I am a resident and contributing to a Roth 401k + 457b. I moonlight at a VA. Can I also contribute to a TSP or does contributing to my workplace 401k take the place? Thanks!
Remember you only get one $17.5K employee contribution, no matter how many employers. So if you put $17.5K into your Roth 401(k), and $17.5K into your 457, you can’t put anything into the TSP. Be sure you get the maximum match offered by your employers.
Any thoughts or recommendation on how best to maximize the TSP in a portfolio?! I am a young Navy physician planning on doing 20 years (8 so far) but am not counting that chick until it hatches. I am currently looking at a portfolio with 60% stocks (10% small cap value), 20% international stock, 10% REIT and 10% Bonds. I am changing Roth to Vanguard and only have $40K but would like to get admiral shares so was thinking 10K in VTSAX, VSIAX, VTIAX, and VGSLX. I am going to use my TSP ($70K) for my bonds and rest of the stock allocation. They have the G fund as mentioned above as well as the F fund for bonds and then a large cap, small cap, and intl stock fund.
I just wrote a post about it yesterday, but it won’t run for a while. Obviously you’ll need your SV and REITs in the Roth since the TSP doesn’t have that.
Figures. Lol! I will be excited to see your thoughts on the subject when the post runs. I can see how close I came to matching them!!
WCI, if you were still in the military and therefore had the continued opportunity to invest in the TSP G fund, would it be your one and only bond fund, or would you still split it with TIPS? I’m wondering if the free lunch would be enough to outweigh the inflation-protection lure of TIPS.
On a related note, the bond portion of my AA (20%) has been going to the G fund and to Vanguard Total U.S. Bond Market Index, but I’ve been wondering about two potential tweaks:
– Stop investing new dollars in the Total U.S. Bond fund, and instead invest in TIPS (similar to your AA), or . . .
– Simply begin putting 100% of my new bond dollars into the G fund
I appreciate your input and love the website. It has become daily reading for me.
Many thanks,
Casey
I split it with TIPS when I was in the military. I split it with TIPS now that I’m out. I keep rolling more money into the TSP so I’ve been able to keep that allocation so far.
I don’t know which will do better going forward. So far during my investing career TIPS haven’t been great because we haven’t had unexpectedly high inflation, the economic scenario where they add the most value.
Since this article originally posted, the Vanguard Prime Money Market Fund has increased from 0.03% to 2.4% while the current G fund yield is 2.25%. I get that there is some market risk with bond fund prices falling with increasing interest rates. I get that the G fund offers a good risk-free return. My question is whether, given current money market rates, whether it still makes sense to invest in the G fund when the Vanguard Prime MMF has a higher (and almost risk-free) return. Bonds are only about 15% of my portfolio right now, split between G fund and Total Bond Market Fund at Vanguard.
Yes, the yield curve has done some funny things lately. And yes, it could make sense while it is a bit skiwampus to move TSP money into stocks and move stock money elsewhere into Prime MMF unless the situation normalizes.
Personally, I’m just staying the course.
Given what I keep reading on Bogleheads and elsewhere about bonds doing very poorly and that we’re perhaps even entering a new era of long-term poor bond returns, I’m wondering if it would be wise to cease continuing to add new dollars to my Vanguard Total Bond Index and instead put all my new bond dollars into the G-fund. Currently my bond portfolio (20% of my asset allocation) is split about 50-50 between the two. I guess my question is whether or not it is wise to *only* invest in G-fund as one’s sole bond investment. It seems the downside might be G-fund’s lower potential returns when compared to other more risky bond funds (like F-fund or Vanguard Total Bond Index), but the free lunch is hard to turn down if bonds are truly going downhill as much as what I’m reading in forums by folks smarter than me. Curious to get your opinion. Thank you!
I’ve been doing that for over a decade. So far it has been the wrong move. Maybe eventually it won’t be. The G fund is 1/2 of my bond allocation. You can only know the answer to your question retrospectively. Good luck!
I see I was the last to ask a question here, and my how times have changed since then. Fascinating.
My question is, since the G Fund’s interest rate for June 2020 is 0.75% (per tspfolio.com), and assuming I anticipate inflation being higher than 0.75% over the short-, medium-, and long-term, does this mathematically mean investing new TSP dollars in the G Fund at the current rate simply doesn’t make sense? I wish I could figure this out on my own, but I cannot seem to find any other article or post on any website which addresses it or similar. Thank you kindly.
First let me teach you how to look up the G Fund yield yourself. Go to tsp.gov here:
https://www.tsp.gov/index.html
Then click on “What’s new” link which takes you here:
https://www.tsp.gov/whatsnew/index.html
Then click on Current limits and rates which takes you here:
https://www.tsp.gov/whatsnew/Content/currentLimitsAndRates.html
The “loan interest rate” is equal to the current G Fund yield.
As far as the interest rate, obviously all else being equal, higher is better. But whether you should move that money elsewhere depends on what happens in the future, and my crystal ball is cloudy. While 0.75% isn’t very much, it beats -30% in the next year (a possibility for the stock funds) and -5% (a possibility for the F fund).
However, there is one option you could entertain if you can find a similarly risky investment that yields more. Let’s say you find a high yield savings account that is paying 1.25%. You could swap G to C and then swap out your TSM fund in a taxable account for a high yield savings account.
But I’m just staying put in the G fund.
Thanks, Doc. Very much appreciate your input, as always.