Asset Allocation: It's in the Mix
The amount you contribute to your employer's retirement plan can have a significant impact on your retirement security. But the way you choose to invest your contributions also plays a critical role. The following tips may give you some ideas about how to reach your goals.
Mix it up
A key can be to combine the three major broad "asset classes"—stocks, bonds, and cash—in a way that may be appropriate for your particular circumstances. This combination is known as your asset allocation.
- Stocks offer the potential for the strongest long-term returns but also carry greater risk than other investment classes. Since 1926, large-company stocks have posted an annualized return of 9.8 percent.[1]
- Bonds historically offer a smoother ride than stocks but may deliver lower returns over long periods. Bonds generated a 5.3 percent annualized return from 1926 to 2009.[2]
- Cash investments, such as money market investment options*, can help reduce the risk to your contributions, but may not provide as much overall growth potential. Cash has returned 3.7 percent, annualized, since 1926.[3]
*Money Market Funds are not guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although these Funds seek to preserve the value of your investment at $1.00 per share, it is possible to lose money.
Balance reward and risk
Your main job: Settle on an asset category mix of stocks, bonds and cash that can provide enough potential growth to help reach your goals, but doesn't expose your savings to more risk than you are comfortable with.
Consider how much time you have until you retire
The longer you have until you'll draw on the retirement savings, the more of the portfolio you may want to direct to stocks in pursuit of potential long-term growth. Growth is critical: Without it inflation may gradually erode the value of each dollar of your savings.
With a large stock allocation, you need to be prepared to ride out the ups and downs of the market. But if retirement is decades away, you may have time for stocks' growth potential to make up for short-term setbacks. "Every investor needs to be thoughtful about how much to invest in stocks," says Thomas Herbruck, Vice President of Herbruck Adler in Cleveland, Ohio. "Younger investors should be most concerned about outpacing inflation, so they typically want a larger stock position."
Your focus may change as you approach retirement. "Older investors generally should be more concerned with stability of principal," notes Herbruck. So as you approach the time you'll draw on your savings, you may want to protect the money you'll need in the next five to 10 years.
You can guard those assets from downturns by gradually shifting them out of stocks and into bonds and cash. Just bear in mind that your retirement may last several decades. So even after you finish your career, it may be wise to maintain some allocation in stocks.
Consider your emotional response to downturns
If the market's fluctuations keep you up at night, you may want to reduce your allocation of stocks. Just consider that you'll probably have to save more to accumulate enough to fund retirement.
"Asset allocation is about finding a balance between growth for your long-term goals and stability to help you manage short-term risk," says Herbruck.
Get started today
The Investor Profile Quiz (login to retirement plan account required) from The Principal, may help you identify your risk tolerance level. The quiz is just a guideline and used for educational purposes that may help you determine an investment strategy based on your age, how long you expect to live in retirement, and your appetite for risk.
- [1], [2], [3]
- Ibbotson Associates SBBI 2010 Classic Yearbook. Stock returns measured by the S&P 500; bonds by the Ibbotson Intermediate-Term Government Bond Index; cash by 30-day Treasury bills.
*There are five asset class categories used on the Investor Profile Quiz.
Past performance is not a guarantee of future results.
No investment strategy, such as asset allocation or diversification, can guarantee a profit or protect against loss in periods of declining values.
Thomas Herbruck and Herbruck, Adler are not affiliated with the Principal Financial Group or any of its member companies.
#t100514036f [From Summer 2010 Plan Ahead. Get Ahead.]
