Time Frame Adjustment

Time Frame Adjustment

There is a big misnomer in the financial planning and investment community around the time frame for one’s investments.  All too often, I see people who default to assuming that as they age, they should adjust their allocations accordingly.  Heck, it is what all the target date funds of the world are doing, why shouldn’t you?  It is a great question and one worth spending a few minutes discussing today.

Stocks VS Bonds

For starters, you must understand what stocks and bonds mean to your portfolio.  Quick summary, or at least how I view it, is that stocks provide your growth engine.  Over time, stocks outpaced inflation and have historically been a great way to grow your net worth.  Bonds are less volatile and really provide more safety in most time periods.  They generate most of their returns from consistent dividends and thus are generally considered one’s safer assets.

The conventional wisdom is that as you get closer and closer to retirement, you should be shifting your allocations more towards bond exposure and away from volatile stocks.  I don’t fully disagree with this statement, but I certainly don’t fully agree with it either.  You see, an investment allocation should be bespoke to your actual needs rather than one preconceived notion. 

I think the better way to view this is to think about how much of your funds you want in the growth vehicle and how much of your funds you want in the income and less volatile vehicles.  In essence, the bonds should be able to protect your stocks from being forced to sell those stocks at an inopportune time (think buy low, sell high, not the reverse).  

Allocations

The way I like to look at an allocation is to put enough bonds aside so that it provides the safety net, or peace of mind, to cover X years of market turmoil.  Think of it like this: if I want to make sure in the worst of markets, I want 5 years of expenses not tied to the market gyrations, and my need is potentially $100,000 a year from my investments, then I should have roughly $500,000 of my investment portfolio in bonds, irrespective of my investment amount.  Thus, if I had a $2,000,000 portfolio, I would have a 75/25 mix between stocks and bonds.  Furthermore, if I have a $10,000,000 portfolio, the argument can be made that I still need the same $500,000 in bonds, thus my portfolio blend would be 95/5.  By focusing on the needs, you can see that it will directly impact your allocation rather than some outdated models. 

By my explanation, you can see why people tend to get less aggressive, or more bond-focused, as they get closer to retirement.  What typically happens is that in your heavy working years, especially if you have a lot of job security, you aren’t worried about stock market downturns, as you plan to work through them.  Thus, you need less exposure to a safety net, as your job’s income provides you with the safety net that bonds tend to do later in life.  As you get closer to retirement, however, your needs from these funds become more apparent, and naturally adjusting your investment allocation makes good sense.

Retirement Isn’t An End

Here is the rub, though.  What I have found is that for most people, retirement doesn’t mean the end is near.  Rather, it simply means that you are changing from where you derive your funds to live.  Most of us plan to have a 20-40-year retirement.  Said differently, most of us are planning on needing the use of these funds for multiple decades. This means you will need to keep growing your funds and protecting, for many years to come.  Said even differently, don’t overcorrect or continually go more conservative just because you went from 60 to 65-70-75 years old.  As long as you have your bond exposure calibrated in for most people I work with, there isn’t much need to adjust their allocations in retirement.

People all too often forget that retirement isn’t the end of one’s investment needs; rather, it becomes a different equation with the same variables.  You certainly should be reviewing the needs of your investments differently as retirement approaches, but don’t let that conflate with having to go more conservative and/or continually adjusting that direction through your retirement years.

This is a favorite topic of mine, so please feel free to reach out with any questions, and as always, stay wealthy, healthy, and happy!