It seems obvious that your investment mix should change as you age, right?
Young investors have many years ahead of them to let money compound, rebound from setbacks, and take advantage of long-term growth opportunities.
Investors nearing retirement still need growth – after all, they may live to age 100! – but need to be more cautious, since as time passes it gets harder to bounce back from market hits.
The theory of changing your investment mix as you age doesn’t exactly sound like rocket science, but a review of the investment mix in over 20 million 401(k) accounts by the Employee Benefit Research Institute (EBRI) reveals that some investors still haven’t gotten the message.
Do-it-yourself investors in 401(k) plans are still challenged by how to pick the right investment mix for their age, risk tolerance and circumstances. That’s a problem, since 401(k)s are now the principal vehicle for Americans to save for their retirement.
Twenty-somethings: missing out on a lifetime of opportunities
It’s striking how much money young 401(k) investors are leaving on the table.
They do that by picking investments better suited to their grandfather than to someone whose time horizon stretches seventy years or more into the future.
An astonishing 9% of twenty-somethings has absolutely nothing invested in stocks, the investment of choice for long-term growth.
Another 9% has invested over 0% but less than 60% of their account in stocks, better, of course, than zero, but still too conservative to fund their future retirement needs.
One-fifth of all young participants has allocated between 60-80% of their account to stocks, which puts them in an acceptable ballpark.
The final 62% of young 401(k) participants has devoted 80% or more of their account balance to growth investments. That’s probably a very smart move, considering that few in this generation will have pensions, Social Security faces an uncertain future, and their own savings will have to support them for decades.
Sixty-somethings: courting too much risk?
If young 401(k) investors assume too little risk, some of those nearing retirement may be making the opposite mistake.
Over 20% of sixty-something 401(k) workers have plowed 80% or more of their account balances into stocks, even though they are rapidly approaching their retirement date. They run the risk of seeing their retirement nest egg lose a third or more of value on the eve of retirement, if the market experienced a major selloff.
About 40% of pre-retirement investors fall into the sweet spot, with between 40% to 80% of their accounts in stocks. Those committing 40% to stocks should have enough growth to keep up with the rising cost of living. Those nearer 80%, however, may get more growth – and volatility – than they bargained for. A high stock allocation might work for some investors with other guaranteed sources of retirement income, and with the temperament to handle high volatility like a day at the beach. But 80% is undoubtedly too high for those counting on large periodic income withdrawals in retirement, or who tend to bail on their plan under pressure.
Another 21% have allocated less than 40% of their investments to stocks. That might work for some people, but with today’s low-interest rate environment, that much in bonds may not generate the long-term growth needed by a retiree.
And finally, a full 16% of 401(k) investors in their sixties have no money invested in stocks. With today’s retiree preparing for twenty to thirty years in retirement, it’s hard to see how that strategy will allow someone to even maintain her standard of living, let alone keep up with rising medical and other living expenses.