If you listen to the media, you’re certainly aware of the non-stop attention being placed on the economy. Clearly, we’re experiencing something people have never seen before, and there are plenty of stories about how people are being affected. But, one thing I constantly hear are stories about people who are just a couple years away from retirement, or already in retirement talking about the massive losses they have experienced.
Whether it’s NPR, the local news, or online sources, there are always stories that highlight the sad tale of a 60-something who planned on retiring next year, but now can’t and fear they need to work another 10 years because their retirement portfolio has dropped 50% this year. I just don’t understand it. What sane person who is expecting to retire, or is already retired and needs that money would be invested so heavily in stocks that they experience these catastrophic losses?
Is it Ignorance?
Maybe I’m biased because my sole job is to prevent people from making these mistakes, but I have to wonder why so many people on the verge of retirement or are already retired are putting so much of their money at risk. Are they completely clueless, or simply pay no attention to their investments? Clearly they aren’t working with a planner, because even the most shady among them would clearly try to stear them into a more appropriate investment allocation, if just for meeting suitability requirements to protect themselves.
But what is someone who is going to soon rely on those funds thinking when they are invested primarily in stocks, which they should know can have ups and downs? Obviously, I don’t think anyone expected a 40-50% drop in equities in the past 14 months, but even so, were these people even prepared to see a 10% or 20% drop in the same period? I doubt it.
Is it Greed?
I don’t like to call anyone greedy, but I have to say, I’ve met with a number of people who are on the brink of retirement who got greedy in recent years. Many people just a few years ago back in 2003 and 2004 abandoned their appropriate asset allocation in favor of a higher concentration of stocks. After coming out of the decline of 2001-2002, when people saw 20-30% returns in a year, everyone wanted a piece of that action.
I met with people who were looking at retiring in 5 years back then wanting to move into a 90-100% stock portfolio. They kept hearing about their co-workers bragging about their gains, and they wanted it too. Sure, their co-worker might be 10 or 15 years younger, but so what. They feel they were missing out. Their risk tolerance and time horizon was thrown out the window in favor of capitalizing on some short-term gains, primarily as a means of recouping the losses of just a few years prior.
Was it greed that led people into equities 4 or 5 years ago even when it was against what was appropriate? In some cases, I think so. Money talks, and if your friends, family, and co-workers are making some, you don’t want to miss out and will abandon your plan to try and make some. Unfortunately, people want their cake and to eat it. They love the reward that comes from taking on a little more risk, but can’t stand the downside risk.
What a Nearly Retired Person Should be Doing
Obviously, there are many factors that go into determining an asset allocation, but it’s pretty safe to say that most people within five years of retirement (and actually needing to rely on that money for income) and those already retired should have a portfolio that consists of primarily income generating investments, with a little bit in stock. It isn’t rocket science, yet many people fail to follow standard advice. If you need to rely on that money now, or soon, your focus should be on generating a reliable stream of income, not capital appreciation, which comes with the possibility of periods of significant declines.
If we look at all the stories of people in this scenario who have lost 40% or more of their portfolio in the past year, they are clearly not invested properly. This would suggest they are basically invested in close to 100% equities as the S&P 500 is down around 38% YTD as of this writing. You don’t need to be a financial genius to question why someone so close to relying on their investments for income would be in the most risky type of portfolio possible.
Instead, a prudent retiree, or someone very close to retiring should be closer to the opposite of this spectrum. They should have a portfolio consisting of primarily bonds, treasuries, or other fixed-income assets with only a small component in equities. Let’s see how various portfolios like that would have fared this year compared to those who lost half their money.
- Vanguard Target Retirement Income (VTINX) – 70% bonds 30% stocks: -12.7% YTD return.
- Vanguard Long-Term Bond Index (VBLTX) – 100% bonds: 1.58% YTD return.
- T. Rowe Price U.S. Treasury (PRTIX) – 100% treasury: 11.93% YTD return.
Of course, this isn’t a definitive example, but I wanted to highlight a few different examples that might represent someone in this stage of their investing life. Obviously, if you hold some stocks, you’re bound to drag your overall returns down a bit in this market. But as you can see with the Vanguard Target Retirement fund, you still maintain a healthy stock position while limiting your losses significantly relative to the market as a whole. On the other hand, you can go strictly bonds (in this case, primarily corporate bonds) and the Vanguard Long-Term Bond Index would have resulted in just a modest positive return. And then you have complete safety with the T.Rowe Price Treasury fund, which has dominated with a 12% return this year.
Obviously, everyone’s portfolio and overall objectives are different, but someone so near, or already in retirement should probably have a good mix of treasuries, other bonds, and a little bit of stock. As you can see above, these people should be talking about relatively minor losses to modest gains, not 40-50% losses.
What I’d Like to See Reporters Asking
I also don’t get what the point of these stories that talk about people who made poor investment decisions so close to retirement is. Is it to pull at our heart strings so we feel bad? If that’s the case, this is no different than asking us to feel bad for the banks and companies who took on too much risk and got burned and are now asking for a bailout. How many people feel bad for those bad decisions?
So, I don’t see what highlighting someone who made a bad decision with their nest egg is going to accomplish. It always turns into these people, callers, or commenters on the story to place blame. It’s the government’s fault this person has to work a few more years now, or it’s the bank’s fault, or the President’s fault that these people have to rethink retirement. Sure, with everything going on, it’s caused a lot of hardships, but in most cases, these could have been avoided if people made smart decisions and invested how they were supposed to in the first place.
If it were me reporting on one of these stories, I’d be asking these people why they were invested so heavily in stocks while being so close to retirement. I’d ask how they came to this conclusion, or who they turned to for advice that put them in this position. Rather than sit and complain about the situation and place blame, why not find out what caused or encouraged this behavior so we can learn from it and make sure it isn’t repeated for the next generation.
Author: Jeremy Vohwinkle
My name is Jeremy Vohwinkle, and I’ve spent a number of years working in the finance industry providing financial advice to regular investors and those participating in employer-sponsored retirement plans.
