The point of portfolio asset allocation is to identify the proper combination of investments across stocks, bonds, cash, and alternatives that align with one’s financial goals. After all, well-crafted portfolios help generate more consistent returns. Add retirement to the equation, and the importance of asset allocation and diversification is compounded.
The following are key allocation and diversification strategies for pre-retirees.
Conventionally, retirement asset allocation is the diversification of one’s retirement account across stocks, bonds, and cash.
However, it is increasingly popular to make room for alternative investments – basically anything other than the above assets — which can produce steady secondary income and mitigate overall portfolio risk.
It is never too early to begin revising one’s pre-retirement portfolio. The average person can expect to live 18 to 20.5 years after retiring at 65, according to the U.S. Social Security Administration, so the goal should be long-term security. And as people age, the less they can afford dramatic market swings — a key reason to add alternative investments to one’s retirement portfolio. Because of their low correlation to the stock market, they are not as subject to volatility.
In addition to risk tolerance, how one ultimately allocates retirement assets depends on their financial goals and investment time horizon.
Ultimately, financial advisors widely recommend that key components of a modern retirement portfolio include a diversification of stocks and bonds, cash, and alternative investments such as real estate. Each asset class has a different level of risk and returns.
How conservative, moderate, or aggressive one should be in establishing their retirement portfolio depends in large part on the investor’s age.
For example, because they have the advantage of time, younger people – those in their 20s and 30s – can afford aggression in their investments. This can mean making maximum use of an IRA and 401(k), focusing more on growth stocks, and avoiding slow-growing assets such as bonds.
A person in their 40s may want to consider a more moderate approach — unless they are just beginning to save for retirement. In that case, they will need to put capital in aggressive assets to help avoid the effects of inflation. Generally, though, this demographic should not be careless. Rather, they should consider investments that historically have generated returns, while continuing to max out their 401(k) and IRA.
Because people in their 50s and 60s are nearing retirement age, and will soon need their retirement savings, it is recommended that they invest more conservatively. Many individuals in this demographic may wish to get professional advice about pivoting to more low-earning, stable funds such as money markets or bonds. They also may want to put more money into their retirement accounts.
To slash overall investment portfolio risk, it is important to have assets in various industries, classes, and geographic regions, and in assets that are not highly correlated to one another. If a portfolio consists of a mix of investments, the subpar performance of one can potentially be offset by another asset’s better performance. While no investment portfolio is risk free, diversification can offer a better chance for more consistent returns overall.
Note that while the classic investment portfolio split is “60/40” – 60% stocks and 40% bonds – such a strategy may be passed. Many financial advisors are instead suggesting that 20% of holdings, with most of it derived from fixed-income assets, go to less-volatile alternative assets. This is discussed in more detail later.
Most experts agree that stocks, bonds, and cash equivalents make for a solid foundation for retirement portfolios. But like any investment, there are risks involved.
In simple terms, stocks, also called equities, represent shares in a company’s ownership. One of the riskiest investments, stocks can lose value – all of it, possibly – if market conditions sour.
Meanwhile, bonds serve to lessen the volatility of stocks and generate dependable income. The chief risk with bonds is that the issuer may default on a payment or more before the bond matures.
The category of cash equivalents include bank CDs, U.S. Treasury bills, corporate commercial paper, bankers’ acceptances, and other money market equivalents. While such financial instruments generally carry low risk, they are not exempt from it. For example, short-term government bonds are at risk of inflation and interest rates. They also are at political risk – the possibility that returns could suffer due to a country’s political changes or instability.
Basically any asset class excluding stocks, bonds, and cash, alternative investments are increasingly popular as ways to avoid public market volatility, and gain passive income, when putting together a diversified retirement portfolio.
Online alternative investment platforms such as Yieldstreet, for example, offer wide-ranging, highly vetted, and curated opportunities in assets such as real estate, art, marine projects, and commercial, with low minimums available. Yieldstreet also offers an IRA to which alternatives can be added.
As with anything else, there are pros and cons of including alternative investments in a retirement portfolio. Pros include low correlation to the stock market, the potential for better returns, and the ability to use one’s expertise, such as in art or real estate.
Downsides may include low liquidity, since most alternative investments are private, as well as complexity, a lack of regulation, and the potential for higher fees.
There are various ways to craft a retirement portfolio, after assessing one’s financial goals and risk tolerance, some of which may be based on age. Note that all retirement portfolios will need periodic review as investors age and needs change.
As a tool, wise asset allocation can generally diversify one’s retirement holdings by spreading out any risk. In fact, diversification is key to any successful investment portfolio.
Traditional portfolio asset allocation envisages a 60% public stock and 40% fixed income allocation. However, a more balanced 60/20/20 or 50/30/20 split, incorporating alternative assets, may make a portfolio less sensitive to public market short-term swings.
Real estate, private equity, venture capital, digital assets, precious metals and collectibles are among the asset classes deemed “alternative investments.” Broadly speaking, such investments tend to be less connected to public equity, and thus offer potential for diversification. Of course, like traditional investments, it is important to remember that alternatives also entail a degree of risk.
In some cases, this risk can be greater than that of traditional investments. This is why these asset classes were traditionally accessible only to an exclusive base of wealthy individuals and institutional investors buying in at very high minimums — often between $500,000 and $1 million. These people were considered to be more capable of weathering losses of that magnitude, should the investments underperform. However, that meant the potentially exceptional gains these investments presented were also limited to these groups.
To democratize these opportunities, Yieldstreet has opened a number of carefully curated alternative investment strategies to all investors. While the risk is still there, the company offers help in capitalizing on areas such as real estate, legal finance, art finance and structured notes — as well as a wide range of other unique alternative investments. Learn more about the ways Yieldstreet can help diversify and grow portfolios.
Pre-retirees and those in early retirement would do well to be proactive and take charge of their retirement planning. A carefully allocated and diversified portfolio, with components that include alternative investments, can help minimize losses while still benefiting from potential gains.
After all, the last thing one wants to concern themselves with upon retirement is having sufficient capital to fund it.
Yieldstreet provides access to alternative investments previously reserved only for institutions and the ultra-wealthy. Our mission is to help millions of people generate $3 billion of income outside the traditional public markets by 2025. We are committed to making financial products more inclusive by creating a modern investment portfolio.