The volatility of the stock market based on fighting in Ukraine and soaring gas prices presents a significant challenge to your future if you’re nearing retirement or already in it.
Over the long run – 20 years – a diversified portfolio of large company stocks has always given a positive return, even adjusted for inflation. That’s why stocks belong in your portfolio. But your time horizon might be shorter than 20 years, especially if you are required to make annual withdrawals to fund your retirement.
Despite their track record of beating inflation in the long run, stocks often slide in reaction to inflation news – as rising costs of everything from energy to wages cut into profits and earnings.
The baby boomers are the first generation to be managing their own retirement portfolio, unlike their parents who typically received lifetime pensions (for their much shorter life expectancy). The recent outsize returns in the stock market have made 401(k) plan participants look like investment pros. But if your portfolio takes a bear market hit in the early years of your retirement, it could impact your future lifestyle in a major way.
What’s your exposure?
The first step toward understanding potential risk lies in understanding what you own. Check your latest monthly statement. Let’s start with stocks.
I’ve always advised that retirees roll over their company 401(k) or 403(b) to an IRA when they stop working. That’s because most retirement plans have investment choices geared to younger investors trying to aggressively build retirement savings. Retirees, on the other hand, need more conservate stock funds, such as an equity-income fund. Few 401(k) plans offer money market funds, but if you’re still working you might be able to hide from volatility inside a stable value fund if one is offered.
Stocks aren’t the only risky part of your retirement portfolio. Bonds, as I’ve often written, can be even riskier than stocks.
When interest rates rise, bond prices fall! Currently, for every percentage point increase in the level of interest rates, you can expect the price of a typical bond fund to fall by 6%.
You do the math. If interest rates rise from the current 2% on A-rated bonds to as high as 7% (matching current inflation), the price of this typical bond fund could drop by 30%!
The longer the maturity and the lower the quality of the bonds in your fund, the greater the potential price decline.
Look inside your portfolio
Whether you own stocks or bonds, you could be forced to take losses if you need to sell in order to take RMDs. So, it’s important to know what’s inside your mutual funds. Don’t count on the professionals who manage target-date retirement funds to protect you.
Ron Surz, author of “Baby Boomer Investing in the Perilous Decade of the 2020s” (available on Amazon on Kindle with video links for $9), says that these target-date funds are a “retirement disaster waiting to happen.” He explains that while many companies use these target-date funds as a default “safe haven” for their employees, the average target date fund for people near retirement has an 85% exposure to risky assets, both stocks and bonds.
That same mix lost more than 30% in the market decline of 2008. And these days, Surz says, bonds are even riskier, since we are in a rising interest rate environment, with the potential for greater losses. Count those target-date funds among your riskier assets.
Where can you hide from risk? Says Surz: “It’s not so easy to find safety today. With short term rates artificially low, even safe money is exposed to the risk of inflation eating away at your principal.” He recommends TIPS (Treasury inflation-protected securities) funds and gold, as well as commodity funds and ETFs, all designed to protect against inflation. Your best inflation bet, he notes, may be the family home.
There’s an old saying in the stock market: “Sell down to the sleeping point.” You don’t have to sell everything – just enough to create liquidity for at least a few years of expenses. That should let you sleep.
Terry Savage is a registered investment adviser and the author of four best-selling books, including “The Savage Truth on Money.”
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