skip to Main Content
A Step By Step Guide To Asset Allocation In Retirement

A Step-by-Step Guide to Asset Allocation in Retirement

The best asset allocation strategy for retirees isn’t a one-size-fits-all formula. There are several variables that determine your ideal stock/bond/cash allocation, such as your age, risk tolerance, and more. Here’s a quick guide to help you determine the optimal allocation for your 401(k), IRA, and other retirement accounts.

1. Learn the basic concepts of asset allocation

Asset allocation refers to how much of your investment portfolio should be invested in stocks (equities), bonds (fixed-income), or cash-based assets.

The general idea behind asset allocation is that stocks offer the best long-term growth potential, but can be quite volatile over short time periods. On the other hand, bond investments can be excellent tools for preserving your capital, but offer relatively limited return potential. Finally, cash assets are risk-free, but also earn very little returns.

As we’ll see, asset allocation is about finding the appropriate mix of risk and return potential for you.

Retired couple looking at a tablet.
Image source: Getty Images.

2. Using your age, approximate your ideal stock/bond mix

Notice that I didn’t say stock/bond/cash mix. Even in retirement, I generally discourage people to keep more money in cash than they need for their near-future living expenses. I’m of the opinion that all of your savings should be earning something, and there are bonds that aren’t much riskier than cash (short-term Treasuries for example) but pay significantly more than most savings accounts.

With that in mind, here’s a good rule of thumb to estimate your ideal asset allocation. Simply take your current age and subtract it from 110 to find the percentage of your assets that should be allocated to stocks, with the remainder invested in fixed-income assets. For example, if you’re 70, this implies that about 40% of your investment assets should be based on equity and 60% on fixed-income investments.

3. Evaluate your own risk tolerance

Could you deal with your portfolio dropping by 50%? The stock market has done that before, and may eventually do so again, so as a rule, don’t invest any money in stocks if you wouldn’t be comfortable with it being subjected to this kind of volatility. However, the fixed-income portion of your portfolio can help to offset (but not eliminate) this risk during tough times.

To be clear, all investing involves risk, and markets will fluctuate. The point is that your portfolio should be designed to keep your volatility at a relatively low level for the amount of income and growth you hope to achieve.

Therefore, the next step is to evaluate your own risk tolerance. Using your age-based allocation from step two, adjust accordingly if you feel that you have a higher or…

Leave a Reply