Asset allocation involves allocating investments across multiple asset classes, such as stocks, bonds, cash, and other assets. The goal is to create a portfolio that balances potential growth, income, and risk in line with your individual financial goals.
Retirement is a time many of us look forward to. It’s a time to relax, enjoy life, and reap the fruits of our labor. But it’s also a time when it’s important to be mindful of our long-term financial security. One of the most important aspects of retirement planning is determining an appropriate asset allocation. The right mix of investments can help provide the income you need today while allowing part of your portfolio to continue growing for the future.
There are four key considerations to make when it comes to asset allocation:
Age can influence your asset allocation, but it shouldn’t be the only factor. Generally, investors may become more conservative as they approach and enter retirement because they have less time to recover from significant market losses. However, retirement can last 20, 30, or even more years. Becoming too conservative too early could make it more difficult for your portfolio to keep pace with inflation and support your long-term income needs.
Instead of relying on age alone, consider where you are in your retirement journey, how much income you’ll need from your investments, and how long your portfolio may need to support you.
The level of investment risk you’re comfortable taking on, and your ability to withstand potential losses, is your risk tolerance. If you’re a conservative investor, you may want to focus on less volatile investments, such as high-quality bonds and cash equivalents. If you’re comfortable accepting greater market fluctuations in exchange for greater long-term growth potential, you may maintain a larger allocation to stocks.
However, your willingness to take risk and your financial ability to take risk aren’t always the same. Your asset allocation should account for both. A portfolio that’s too aggressive may expose your retirement savings to unnecessary volatility, while one that’s too conservative may not provide enough growth to support a long retirement.
What do you need your retirement portfolio to accomplish? Your asset allocation should be tailored to your financial goals and expected retirement expenses.
For retirees, this often means thinking beyond a simple stocks-versus-bonds decision. Your portfolio may need to provide accessible funds for near-term expenses while maintaining investments with greater growth potential for needs that may be decades away. Creating different roles for different portions of your portfolio can help balance current income needs with long-term financial goals.
Your time horizon is the amount of time you have before you expect to need your money.
If you have a longer time horizon, you may be able to maintain a larger allocation to investments with greater growth potential, such as stocks. Money that you’ll need within the next several years, however, may be better suited to investments with less short-term volatility. This becomes especially important in retirement because withdrawing money from investments during a market downturn can shorten the lifespan of your portfolio. This is known as sequence-of-returns risk. Maintaining an asset allocation that accounts for both near-term withdrawals and long-term growth can help reduce the need to sell investments at unfavorable times.
Asset allocation and diversification are closely related, but they aren’t the same. Asset allocation is the amount of your portfolio that’s invested across broad asset categories, such as stocks, bonds, and cash. Diversification involves spreading investments within those categories to reduce your exposure to any single company, sector, investment type, or market.
For example, simply owning several different stocks doesn’t always mean your portfolio is properly diversified if all of those companies operate within the same industry. A well-diversified retirement portfolio can help manage investment risk while still providing growth opportunities. Diversification does not eliminate the possibility of investment losses, but it can reduce the impact that poor performance in one area has on your overall portfolio.
Your asset allocation shouldn’t necessarily remain the same throughout retirement. Market performance, withdrawals, changing expenses, and investment gains or losses can cause your portfolio to drift away from its intended allocation. Your income needs, financial goals, and risk tolerance may also change over time.
Occasionally reviewing and making necessary changes to your portfolio can help keep your investments aligned with your target asset allocation. For example, if strong stock market performance causes stocks to account for a larger percentage of your portfolio than originally intended, rebalancing may involve reducing that exposure and reallocating assets elsewhere.
Your age and retirement stage, risk tolerance, financial goals, income needs, and time horizon should all be considered when creating your investment strategy. There isn’t one asset allocation that’s right for every retiree. The appropriate mix depends on your individual circumstances and should evolve as your needs change.
If you’re unsure how to create or maintain an asset allocation strategy, consider consulting with a wealth manager. An advisor can help you evaluate your investments within the context of your retirement income needs, risk tolerance, tax strategy, and long-term financial goals. At Good Life Private Wealth, we work within your goals, timeline, and risk tolerance to make sure we’re serving your interests. Our goal is to help your money work hard for you so you can live the good life in retirement.
