How To Build YOUR Retirement Portfolio
As the market continues to rise and fall, retirement portfolios are getting more attention. Investments that were once considered safe havens for retirement accounts may not be as secure as you previously thought. Investments such as bonds decline in value following interest rate hikes. This is why it's important to take different factors into consideration when deciding how to invest your money during your golden years!
There are a few key things to think about when building your retirement portfolio:
-Your current age and how long you have until retirement.
-How much money you will need each saved to cover retirement expenses.
-The likelihood of another recession or market crash during your retirement years.
-What returns do you need to average to meet your retirement plan's income goal.
When creating a plan, it's important to remember that everyone's situation is different! If you're nearing retirement, you may want to be more conservative with your investments, while someone who has a few more years until they retire can afford to take on more risk. No one knows what the future holds, but by being proactive and planning ahead you can rest assured that your golden years will be enjoyable!
With that said, not everyone will fit the typical mold. Some individuals near retirement still have a high appetite for risk and don't want or need to be conservative. Likewise, there are younger people that don't want to take any risk and therefore will want to invest with a slow and steady approach. There is no right or wrong answer, as long as it fits your needs and your appetite for risk.
How does your age, working years left and longevity play into your portfolio?
When you're young, time is on your side so you can afford to invest in stocks and take more risks. According to most "textbooks", as you get closer to retirement, the percentage of stocks should decrease and the percentage of bonds increase. This will help protect your portfolio against any sudden market crashes that may occur in the years leading up to and during retirement.
When you are in your working years, you are most likely adding to your 401k or your IRA on a consistent basis. So, when the market drops, you are buying in at lower values. You are by default "dollar cost averaging" into the market.
Once you retire and no longer have that paycheck coming in and are no longer consistently adding to your retirement accounts but instead you are taking money out of the accounts to live on...it changes everything. You most likely can't afford major pullbacks in the market and therefore in your retirement portfolio anymore.
For most people, when in retirement, you need to shift your mindset when it comes to investing. It's most likely no longer about how much you can make, but how much you can keep. You need this money to last your entire retirement years which for most people is between 15 & 30 years.
How much do you need saved to cover your retirement expenses?
This is a question that has a different answer for everyone. There are so many factors that go into this equation, it's ridiculous. The average person is expected to live to about the age of 84 for men and 86 for women which means you need to plan for at least 20 years of expenses after retiring in your 60's!
Most people that I have worked with all want to keep the same lifestyle they are accustomed to during their working years but maybe add a bit more travel. Well, that means you may need to plan for higher expenses than you have now (at least during the years you want to travel). Other people have mortgages or loans that they are going to have paid off in retirement which means they can live the same lifestyle with fewer expenses. Sitting down and figuring out your current expenses and expected retirement expenses is a major step in creating a comprehensive retirement plan.
You also need to consider a number of other expenses. Healthcare is a big one if you retire prior to age 65 (when you can get Medicare) as well as which Medicare plans you will be getting. Another possible large expense will be taxes, figuring out which accounts to withdraw from and when can cause major differences in the amount of taxes you will pay.
Of course, there are ways to decrease these numbers and still provide a comfortable retirement for yourself by taking less risk with investments or working part-time either before or during the later stages of your life. But when creating a solid financial foundation...you can't skimp out on these calculations no matter what stage of life you're currently in!
What is the likelihood of another market crash or recession during your retirement years?
This is a question that no one can answer with certainty. The only thing we know for sure is that it's bound to happen at some point. If you're like most people, you don't want to think about it or plan for it! But the reality is, planning for this event is just good financial planning practice.
There are many different schools of thought when it comes to how to prepare for another market crash or recession but I typically tell my clients, "If you are invested properly, you don't need to worry about a crash or correction. Your portfolio should be built around your retirement plan and have protections built into the plan that a crash or correction will now ruin the overall plan." A proper plan and portfolio will be able to sustain the down periods without giving you added anxiety in retirement.
According to this article by Fortune.com, "Since 1946, there have been 12 crashes, with average losses around 35%, and the market can take up to four years to recover."
Unfortunately, no one has a crystal ball and no one can tell when the next recession is, but that doesn't mean you can't plan for it.
What returns do I need?
So far we have discussed creating a portfolio around your age, longevity, and risk tolerance, a portfolio designed to meet your income needs and expenses, and a portfolio built to not allow a recession or market crash to destroy your retirement. When you take a look at the portfolio designed around your retirement plan you should be able to calculate an average rate of return needed from the portfolio to meet all of your retirement goals. So what is that number?
This question really depends on how much money you have saved already, how long until retirement, what are your goals in retirement, and what is your life expectancy? Not everyone needs the same rate of return on their investments and this number can change drastically from person to person.
To figure out the rate of return you should be shooting for, take a look at the amount you have saved, the expected expenses we discussed earlier, your other sources of income (post-tax), and what that gap in expected income versus expected expenses. That gap will tell you the post-tax amount you will need to create out of your portfolio. Keep in mind, it's ok to draw down on your principal a little every year as long as you have accounted for corrections and crashes to ensure the portfolio will be around long enough to draw income your entire retirement.
It's impossible to say exactly what everyone should do when creating their retirement portfolio. But by keeping the points above in mind, you can start to form a plan that is right for you!
Speak with an advisor, read books or articles on the subject, and most importantly...don't be afraid to ask questions!