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Everyone knows they’re supposed to save for retirement. But exactly how depends on needs, goals, risk tolerance, and time frame. Finding the best asset allocation for your age is more individual than applying a set formula.
Age, Time, and Risk
Generally, younger people have more time to save and invest. Their portfolios have more time to recover from market downturns. The longer timeframe makes it reasonable for younger investors to take greater risks, placing a larger part of their 401(k), 403(b), or other employer-provided retirement plan in stocks. The closer you are to retirement, the less time you have, and you may be less willing to accept the risk of your investments losing value.
The “100 rule” has been a long-standing shortcut to finding the best asset allocation for your age. This rule states that you subtract your age from 100, and the result represents the percentage of your investments that you should invest in stocks. Recently, however, more financial advisors have modified the rule to 110 or even 120, recognizing increasing longevity.
People who are closer to retirement and didn’t have the opportunity to benefit from employer retirement plans and contributions have differing needs. As retirement nears, investors who have built up a substantial nest egg can shift a greater percentage of their assets to less risky investments that reliably provide income. In recent years, those have included steady dividend-paying stocks, as bonds have been more volatile, risky, and expensive than in years past. Those who need to catch up and save more to have enough to retire may need to accept more risk for greater reward as they approach retirement, shifting into safe investments only when retirement is imminent.
Regardless of the asset allocation, meaning the percentage of money allotted to stocks, bonds, real estate, and annuities,retirement investments should be diversified. Funds that own a variety of stocks based on an investment philosophy (growth, value, balance, target date, etc.) should be mixed with real estate instruments like REITs and interest-bearing investments like quality bonds, CDs, or treasury notes. In volatile markets, assets of different types act as hedges against downturns elsewhere in the portfolio.
Your retirement portfolio is not the place for speculation or frequent trading. If you have enough money, you can open a separate brokerage account for that with a little extra money you can afford to lose.
There are a variety of calculators available to help you determine how much you’ll need in retirement. Accounting for rising health-care costs over longer lives should be a feature of any calculator you may use. Speak with a licensed, professional financial advisor to help you make good investment choices in appropriate proportions to ensure you don’t outlive your money.