Playing Too Close to the Vest? Why a Laddered Investing Strategy Can Help You Get Comfortable With Risk
Playing it too safe with your investments means they might not be able to outpace inflation or fund a 30-year retirement. Here's a strategy that helps you invest for growth without risking it all.
Retirees wondering where to invest their money should keep this in mind: Investments don't happen in a vacuum. Every investment has a role to play, whether that's providing short-term income or long-term growth.
This means you have plenty of questions to consider as you review the options. Not everyone will have the same questions, but some that my clients have raised recently include:
- What's happening with interest rates, and how should that affect the investing choices you make?
- Is the commodities market worth a look? Those considering making gold and silver a part of their portfolios must weigh whether to buy and, if they do, how much.
As you look for answers, the goal should be to find strategies you can use to take advantage of market upsides while limiting losses on the negative side of the ledger.
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Of course, while some investments are safer than others, retirees shouldn't eliminate all risk. If they do, their portfolios could come under assault from inflation, which is a risk in itself.
If all of this sends your head spinning, don't let it. With the right plan, you can both diversify your investments and ladder them, drawing from some accounts now to live on while allowing others to grow over time.
This approach can help improve the odds of a successful retirement.
Exploring options and strategies
Let's explore some of those questions to get a feel for the approaches you should be taking.
We remain in a rising interest rate environment, with interest on debt eating into our quality of life. It might be a long time before we see deflation.
For decades, there has been a 4% rule for withdrawing money from retirement accounts. Essentially, this rule said that in the first year of retirement, you would withdraw 4% from your accounts. Then each year afterward, you would withdraw 4% plus a little more to cover inflation. The theory was that, with this approach, your money would last about 30 years.
There's a problem with this 4% rule, though. It came about in the 1990s when interest rates were declining but still higher than today, allowing a larger return on investments. Also, life expectancy has increased since then, which affects how long retirees need their money to last.
This means you may need to reconsider whether the 4% rule still works for you or whether a different plan for withdrawals from savings should come into play.
Many people wonder whether they should include commodities, such as gold and silver, in their portfolios. The short answer to that is yes, but with the usual caveat. Commodities can be a nice hedge against inflation and a way to further diversify your portfolio.
But don't go overboard, placing too much of your faith and your money in an investment that might not provide the returns other investment options produce.
Gold and silver don't pay dividends the way stocks do. And like many other investments, they come with risk. Their value can drop, which means you should be careful about allowing commodities to occupy too large a percentage of your portfolio.
Of course, that's true for many investments. Diversification remains a key to avoiding disaster when markets don't cooperate as we'd like.
Planning for the future
So, what's a good approach to making the most of your money over the course of what could be a long retirement, enjoying life now while doing all you can to make sure your money lasts another three decades or so?
Imagine investments as a group of race cars revved up and ready to explode from the starting line. You might place a bet on one of those cars and live and die with the results. But what if you didn't have to choose just one car? What if you could take a more flexible approach and own a share of each race car, benefiting from the different advantages each can provide in its own short-term or long-term lane?
In many ways, this reflects the approach our firm takes to retirement income planning. We divide a client's assets among four buckets, each with a different time horizon and purpose. Because the money is not all needed at the same time, each bucket can be positioned differently based on the client's income needs, goals and tolerance for risk.
The objective is to provide dependable income for today while allowing the assets intended for later years to remain invested for long-term growth.
The first bucket is designed to fund approximately the first five years of retirement. Because this money may be needed soon, the priority is stability and liquidity, not maximizing returns. It might include cash, money-market funds or other conservative holdings.
The second bucket is intended for the following five years. With a longer time horizon, it may include instruments such as CDs, fixed annuities or high-quality bonds that seek to provide predictable interest while limiting market exposure.
The third bucket is positioned for income needs approximately 10 to 20 years into retirement. It may include a combination of equities and a fixed index annuity, providing greater growth potential while incorporating some protection against market downturns.
The fourth bucket is the long-term growth bucket. Because these assets may not be needed for 20 years or more, they can generally accept greater market risk in pursuit of the growth needed to help offset inflation and support income later in retirement.
By matching each investment strategy to the period when the money will be needed, clients are less likely to depend on volatile investments for near-term income. The result is a retirement plan designed to balance current income, stability, flexibility and long-term growth.
Conversation with a professional
Many people planning for retirement yearn for safety and eschew risk as much as possible.
This is where they'd benefit from a conversation with a financial adviser. While there are strategies that can produce income with minimal risk, playing things too close to the vest can limit flexibility and hurt a portfolio over the long term.
An adviser can help you determine your risk tolerance, explain the consequences of being too risk averse and help you create a retirement plan that will work best for you.
Ronnie Blair contributed to this article.
The appearances in Kiplinger were obtained through a PR program. The columnist received assistance from a public relations firm in preparing this piece for submission to Kiplinger.com. Kiplinger was not compensated in any way.
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