Think of your investment portfolio as a basket that contains all your investments in various retirement and non-retirement (taxable) accounts. Ideally, your investment portfolio will grow as you develop and provide the income you need to spend the rest of your life comfortably after work.
If you save for retirement — and invest for retirement — make sure your investment portfolio has these key characteristics.
- An ideal portfolio should include growth, especially when you are young.
- In later life, the focus shifts from growth to income.
- Regardless of your age, as your goals, risk tolerance, and time horizon change, diversifying and rebalancing your investment portfolio is essential.
Investment after the golden age
What is a portfolio?
The portfolio contains all your investments in each account, including:
- Employer-sponsored plans, such as 401(k)s
- IRA (Traditional, Roth, SEP, SIMPLE)
- Taxable Brokerage Account
- Robo Advisor Account
- Cash savings, money market account or certificate of deposit (CD)
These accounts can hold different types of assets, including (but not limited to) stocks, bonds, exchange-traded funds (ETF), mutual funds, commodities, futures, options, and even real estate. Together, these assets make up your investment portfolio.
If you invest for retirement, the ideal investment portfolio should be one that meets your financial needs for the rest of your life. The following features help achieve this.
Retirement plans are designed for long-term growth. Growth tools such as stocks and real estate usually form the core of the most successful retirement portfolios—at least when they are in the growth phase.
It is vital that at least a portion of retirement savings grow faster than the inflation rate, which is the rate at which prices rise over time. Doing so allows you to increase your purchasing power over time.
Kiplinger.com data shows that stocks have the highest rate of return of all asset classes over time. From 1926 to 2018, the average annual growth of stocks was about 10.1%.of
For this reason, even retirement portfolios that are primarily geared towards capital preservation and income generation usually hold a small portion of equity to hedge against inflation.
The average annual growth rate of the stock from 1926 to 2018.of
As you approach retirement age, diversity will take different forms over time. When you are in your 20s, you may only need to diversify your portfolio among different types of stocks (such as large, medium, and small-cap stocks and funds, and perhaps real estate).
However, once you reach your 40s and 50s, you may need to transfer some of your holdings to more conservative industries. These include corporate bonds, preferred stock issuances, and other gentle tools that can still generate competitive returns, but with lower risk than pure stocks.
Alternative investments, such as precious metals, derivatives, oil and gas leases, and other non-related assets, can also reduce the overall volatility of your investment portfolio. They can also help generate better returns during periods when traditional asset classes are idle.
The ideal retirement investment portfolio will not be overly dependent on company stock held internally or externally in your 401(k) or other stock purchase plan. If a sharp drop in value accounts for a large part of your retirement savings, it could completely change your retirement plan.
Once you are at or near retirement age, your risk tolerance usually changes, and you may need to focus less on growth and more on capital preservation and income. If you need a guarantee of principal or income, tools such as certificates of deposit (CD), treasury bills, and fixed and index annuities may be suitable.
However, generally speaking, your portfolio should not be invested exclusively in guaranteed instruments until you are in your 80s or 90s. The ideal retirement investment portfolio considers your retracement risk, which measures the time it takes you to recover from a huge loss in your portfolio.
Active and passive management
Investors today have more choices than ever in terms of who can manage their funds. One of these options is active and passive portfolio management. Many planners specifically recommend passively managed index fund portfolios.
Others offer actively managed investment portfolios whose returns may be better than the broader market and are less volatile. However, actively managed funds usually charge higher fees, which is important because these fees will erode your investment returns over the years.
Another option is robo-advisors, which is a digital platform that allocates and manages portfolios based on preset algorithms triggered by market activities. The cost of a robo-advisor is usually much lower than that of a human manager. Nevertheless, in some cases, their inability to deviate from their plan may be disadvantageous. The trading models they use are usually not as complex as those used by their human counterparts.
If you need advanced services, such as estate planning, complex tax management, trust fund management, or retirement planning, a robo-advisor may not be the best choice.
Conceptually, most people define the “ideal” retirement investment portfolio as the one that allows them to live relatively comfortably after exiting the work world.
Your investment portfolio should always include the right balance of growth, income, and capital preservation. However, the importance of each of these characteristics is always based on your risk tolerance, investment goals and time horizon.
Generally speaking, your investment portfolio should focus primarily or entirely on growth until you are middle-aged, at which time your goals may begin to shift to income and reduce risk.
Nevertheless, different investors have different risk tolerances, and if you plan to work to a later age, you may be able to use your money to take greater risks. Therefore, the ideal investment portfolio ultimately always depends on you-and what you are willing to do to achieve your goals.