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“I can’t afford to lose any money at this stage, I’m out of time.”
This is a phrase we hear occasionally from clients in or on the cusp of retirement, though not as much lately in this raging bull market. Typically, the intent is to design a portfolio that will not ever go down in value while providing a healthy income stream in retirement. Many are fearful and risk averse at this stage of the game, and for good reason considering that sequence of return can have a significant impact on the long term success of your retirement plan.
In investing, time is everything. If you need all of your money in the next 3-5 years, then you likely should not be invested in the stock market. However, I have heard this phrase from clients as young as their late 40s. It is important to remember that even if you are retiring, it’s likely you still have a fairly significant time horizon, potentially even 30-40 years, maybe longer considering advances in health care. A time period this long likely requires an allocation to risk assets if you want to avoid running out of money over the long term. Especially considering the alternative of moving to cash and earning 1% or less for the rest of your life.
When many of us think risk we think “losing money.” We remember the famous Mark Twain quote, “I’m more concerned with the return of my money than the return on my money.” What we don’t always consider is that by moving money out of stocks to avoid losses we are not eliminating risk, we are trading one risk for another. We are making a decision to accept the risk that we lose purchasing power over time instead of accepting market risk. Or maybe we decide to purchase an annuity product that promises a monthly payment for the rest of our lives. This transfers the risk to an insurance company, but it comes at a fairly significant cost. It may feel more comfortable to make these tradeoffs since our account statements won’t show wild swings and negative rates of returns, but it is not a risk to take lightly. Accepting lower long term rates of return for perceived safety can result in a lower standard of living over time.
Obviously you never want to take more risk than you can afford to. This is why it is important to evaluate your risk capacity and design an investment strategy based on that. The goal of any prudent investment strategy should be to avoid selling stocks at low prices to meet cash flow needs. Therefore, money that you anticipate spending in the next 7-10 years should be kept in shorter term investments like cash and bonds. Additional funds are available to be invested in equites. It can be helpful to think of your investments like 2 buckets that will periodically shift funds back and forth as your life and market conditions change, while always maintaining sufficient funds to meet short to medium term spending goals.