You’re a few years from retirement, and the worst-case scenario passes through your mind: What if the stock markets plummet and drag down your nest egg, putting your retirement plan in jeopardy?
Not terribly long ago, the solution to this worry was fixed-income investments. There was even a widely accepted rule of thumb: Invest your age in fixed income and invest the rest in equities. So a 60-year-old would hold 60% of their money in fixed income and 40% in equities.
This was acceptable then because interest rates on fixed-income investments were high enough to provide for retirement savings. But today, interest rates are low and we’re living longer. Holding too much fixed income may prevent you from reaching your investment goal and fail to fund a retirement that may last 25 to 30 years (or longer).
And there you have the dilemma: If you emphasize equities to fund a long retirement, you could put your nest egg at risk. On the other hand, if you focus on fixed income to play it safe, you may fall short of your investment objective.
Fortunately, there are strategies that can help.
How to get both security and growth potential
How can you get protection for your capital along with long-term growth potential? Consider the following.
Multiple time horizons. With this strategy, sometimes called the “bucket approach,” you divide your available investments into a number of streams, each with a different plan to suit each time horizon. If you plan to retire in five years, for example, you’ll have a short-term program of lower-risk holdings designed to hold its own against a market downturn so you can retire on schedule. You’ll also have a growth-oriented program that’s longer-term and able to withstand some volatility—to see you through the 25 to 30 years you’ll spend in retirement. And you may possibly have a medium-term program designed for the initial years of retirement.
Investments with guarantees. Some types of investment funds, such as segregated funds, offer to protect some or all of your principal with a guarantee. The guarantee acts as a safety net, allowing you to pursue growth-oriented investment funds, but such funds may come with a trade-off of higher management expense ratios (MERs) or lower potential returns.
Gradual asset allocation shift. You can gradually decrease equity holdings and increase fixed income over time. In fact, some products manage the shift automatically on an annual basis. Implementing this strategy over the years helps to protect you from the risk of converting all your equities to fixed income when the market is at a low point.
Customize your approach
Whichever strategy you choose, it can be customized to suit your needs, based on a variety of factors. For example:
- Will your portfolio be providing income for both you and your spouse or just you?
- Will you have other income sources during retirement?
- Will you have financial commitments during retirement, such as supporting a dependent adult child?
In all of this, of course, you must remain true to your personal investment profile. (If you don’t know your profile, you can use the investor profile calculator.) Don’t increase equities beyond your risk tolerance to meet an investment goal, even if a bull market tempts you in pre-retirement years. If your goal is in question, you’re better off saving more, delaying retirement, working during your initial retirement years or scaling back your retirement lifestyle.
For most people, investing changes when retirement is on the horizon. Your advisor can help you develop an investment program that provides near-term security and long-term growth.