Retirees Are Long-Term Investors
Retirement is a marathon, not a sprint. Even for those who retire at the traditional age of 65, one should still plan for a 30-year retirement, if not longer. A recent J.P. Morgan study found that at least one of a non-smoking couple in excellent health has a 46% chance of living to 95. They have a 19% chance of living to 100.
Yet it's easy for retirees to see themselves as short-term investors. Unlike saving for retirement, retirees draw from their savings every month to pay for needed expenses. This focus on income can cause retirees to see themselves as short-term investors. Yet, for most retirees, they are withdrawing a very small portion of their retirement savings every year.
There are at least two significant advantages when retirees see themselves as long-term investors. First, they realize their portfolios have time to recover from bear markets. And second, a long-term perspective underscores the need for their investments to outpace inflation (more on this in a moment).
Stocks Offer Needed Returns
Over 30 years, stock returns have far outpaced the return of T-bills. For example, since 1977, U.S. stocks have returned twice as much as T-bills, according to the online tool Portfolio Visualizer. The same is true for 15-year rolling periods. Since 1928, stocks have returned 9.80%, T-bills just 3.34%.
Of course, stock prices are more volatile than the price of T-bills. The standard deviation of stocks, a common measure of volatility, was five times higher than T-bills over the past 50 years. Yet if retirees see themselves as long-term investors, as noted above, it can give them the patience to handle this volatility. in addition, a well-diversified portfolio of stocks and bonds will dampen the volatility of a 100% stock portfolio.
Inflation Can Erode the Value of Bonds
One of the most dangerous risks to a retiree's savings is inflation. over a 30-year period, the price of goods and services can rise significantly, even if inflation seems modest from one year to the next. As we saw in 2022, however, it's also possible for prices to rise sharply in a short period of time. Indeed, the most difficult time to retire was in the late 1960s due to the high inflation of the 1970s and early 1980s.
To combat inflation, retirees need to invest at least a portion of their savings in investments that will outpace the rise in prices. T-bills often do not yield more than inflation. In the long term, stocks have outpaced inflation. As part of a diversified portfolio, retirees can also consider investing some of their fixed income in TIPS (Treasury Inflation-Protected Securities), which hedge against inflation risk.
How Much Should You Invest In Stocks Before Vs In Retirement?
An investor's allocation to stocks should change over time.
A heavy stock concentration is generally recommended for those many years away from retirement….
As one nears and enters retirement, however, it's recommended they reduce their exposure to stocks. While they are still long-term investors, they now need to take yearly distributions from their savings. As a result, a higher allocation to fixed income is often warranted. This reduction in the allocation to stocks is known as the glide path. The term is part of life cycle investing, reflecting the change in asset allocation as one nears retirement.
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Whether you are just beginning to save for retirement, getting closer and trying to determine how much you will need to live comfortably, or have already crossed the threshold and are worried about how long your money will last, knowing you have options can be comforting. Understanding how to take advantage of them can lead to financial success in your golden years.