The industry standard for asset allocation to stocks and bonds has typically been to use your age as the basis. For example: If you are 60 years old, then you should have 60 percent of your money in stocks and 40 percent in bonds. As you age, you or your advisor should adjust the allocation so you hold a greater percentage in bonds.
I believe this old adage no longer holds true–especially in light of today’s investing environment.
First, people are living much longer, so their investment horizons are extended. If you plan on living 15 years or longer, then there is plenty of reason to consider equities as a primary holding in your asset allocation. Fifteen years is a reasonable amount of time to outlive a market decline.
Second, holding bonds in today’s low-interest-rate environment is not very appealing. When inflation is running higher than the yield on quality corporate bonds, investors feel nudged into riskier investments such as stocks. Another reason to be skeptical of bonds is if interest rates start to rise, which we all expect to happen, the bonds’ values will decline.
Third, not everyone has the same comfort with volatility so asset allocation, including investment risks, needs to be a personal decision, not an age-based one. We learned this lesson in 2008’s market crash when many investors pulled their money out of the market at the bottom and kept their funds in cash while the market came back. It is so important for an investor to feel comfortable with his or her investment and to hold the allocation during tough market cycles. That investor will most likely earn better returns by having a more conservative portfolio, even if it is not age appropriate, as opposed to a panic redemption of his or her stocks in a down market.
Surprisingly, many older investors are willing to expose their portfolios to more market risk than their ages would suggest. This is generally money they do not need and plan to leave to their children. They figure their children will not need the money until retirement so they invest with the children’s time frames in mind.
When making your own asset allocation decision, consider your time frame and risk tolerance and how much you can afford to lose in a market decline.
Disclaimer: The views expressed in this article are the opinions of the author and should not be interpreted as individualized investment advice. Investment objectives, risk tolerances and the financial situation of individual investors may vary. Please consult your financial and tax advisors before investing.