How Much Should Someone in Retirement Have in Stocks?

A recent article in a major publication had some disturbing advice. This article was advocating a larger percentage of retirement money invested in stocks in retirement due to people living longer. The article stated that the old rule of thumb says to take your age and subtract it from 100 to come up with the total percentage of your portfolio that should be invested in the stock market at retirement.

Then the writer quoted the four most dangerous words in the world of investing – “Things are different now.”

Here is the reality about investing. Things are different now regarding our environment. Let’s face it! From a cultural perspective, today does not look like the 1920’s. Times have definitely changed. However, there is one thing that has not changed and that is risk. Risk still works today the same way that it worked 100 years ago.

Your risk level increases as you increase the percentage of your portfolio that is invested in stock. It is that simple. Thus, it makes no sense to gamble away your retirement by increasing the amount of money that you have invested in stocks.

Yes, you increase the probability that you will have a better return on your investments. However, you also position yourself to where you could get hit with some big losses. Big losses are damaging to a retiree’s portfolio for several reasons. First, they are taking money out of their portfolio while their investments are losing money. This is one of the quickest ways to run out of money. Second, and most importantly, some in retirement do not have the time to make up big losses.

Let’s look at some examples.

Strategy 1 60% S&P 500 (Stocks) and 40% in Lehman Brothers Aggregate Bond Index

Strategy 2 40% S&P 500 (Stocks) and 60% in Lehman Brothers Aggregate Bond index

Strategy 3 20% S&P 500 (Stocks) and 80% in Lehman Brothers Aggregate Bond index

The investor retired in December 1999 right before the bear market. The newly retired has a $500,000 portfolio and will be taking out $2,000 a month.

Strategy......12/31/99.....12/31/02.....06/08

Strategy 1.....500,000......364,444......386,548

Strategy 2.....500,000......465,021......484,314

Strategy 3.....500,000......502,615......517,600

If a retiree were to take the advice of the writer of the article, his portfolio would have been decimated. It didn’t even matter that the stock market went up between 2002 and 2008. Just look at the difference between having 60% or 30% or 20% in stock in a portfolio.

So, why did I use the 2000 bear market as a starting point? First, bear markets will occur in an investor’s lifetime. Thus, you should have an idea of how a strategy will perform in the bad times. Second, you can never predict when a bear market is going to happen. Timing could either be to your advantage or work against you.

This is all based on a buy and hold approach. If you have your retirement money professionally managed for growth and risk, then having a little higher percentage in stocks can make sense.

Numbers were calculated using CDA Weisenberger Software. Past performance is not an indication of future performance. This blog is not intended to be advice. Before making any changes to your portfolio, seek the advice of a financial professional.

Copyright © 2008 Prudent Money and Bob Brooks. All rights reserved.