Conventional wisdom in the investment world dictates that when you reach retirement age, your investments should become more conservative Someone in retirement can no longer handle the swings of the market. In theory, that sounds like a reasonable idea. Fiduciaries, however, know that many other factors besides retirement age should guide decisions surrounding investment allocation.
Essential to mitigating risk in retirement is diversification. Some investors believe that having their savings in a mutual fund or multiple mutual funds means they’ve diversified their investments. Unfortunately, it’s not quite that simple. The average person who owns one mutual fund owns various mutual funds for even more diversification, or so they think.
What happens is similar to having multiple chefs who all used the same ingredients. When you examine the top 10 holdings of each mutual fund, you will find similarities. Owning the same stocks in multiple portfolios is not diversification. The amount of each asset class you own, whether stocks, bonds, or cash equivalents, such as money market funds, is a vital piece of the puzzle. Investors have limited control over what goes on inside their mutual funds at any given moment.
The primary purpose for saving and accumulating is to replace your standard of living at retirement. When you separate from the workforce, happiness is contingent upon maintaining the life you had while working, not maintaining the income you earned. Believing that you can diversify away risk by owning multiple investments, or the opposite, by going all to cash investments, is a risky endeavor. Your allocation construct should concern the financial need to replace your lifestyle rather than your current age.
Knowing that asset allocation and taking the appropriate risk in your portfolio is essential, but ideally, all your family’s assets are working together. With too many chefs in the kitchen, such as multiple advisors, money managers, or mutual funds, it is impossible to ensure that all of the investor’s funds are working together.
The primary example is when two spouses each have 401k plans. Often, each plan’s allocation is selected without consideration of the other plan, hence deciding in a silo. Silo investing or silo decision making is the process of looking at a particular investment and enacting that decision without considering the other assets you have. The financial risk reduces as the number of chefs in the kitchen reduces. If an investor has multiple advisors making decisions based on the money in a single silo without knowing the complete picture, critical errors are likely to occur. Great chefs and great money managers are readily available, but that doesn’t mean they all should be working for you at once in separate silos. Consider reducing and simplifying anytime you get the opportunity.
Collaborating with a fiduciary can help you walk through the many decisions that arise when you near retirement. Your search for clarity and safety is noble, but investing isn’t as simple as it appears. Look at all your opportunities to coordinate the best strategy.
Joseph A. Clark is a Certified Financial Planner and Managing Partner of The Financial Enhancement Group, and an SEC Registered Investment Advisor. This article was co-authored by Jamie Burton. Contact Joe at yourlifeafterwork.com or 800-928-4001. Securities offered through World Equity Group, Inc. Member FINRA/SIPC. Advisory services can be provided by the Financial Enhancement Group (FEG) or World Equity Group. FEG and World Equity Group are separately owned and operated.
