Investors sometimes express a desire to reduce their overall stock allocation after a surge in prices or before retirement. In their minds, they are dialing down the risk of their portfolios. But are they truly accomplishing what they've set out to do?
Let's assume that an investor will look to their portfolio at some point for an ongoing income stream that stays ahead of inflation to preserve their lifetime standard of living. Is taking money out of an asset (stocks) whose returns have historically exceeded inflation by a wide margin and reinvesting into an asset (bonds) that has gone 50 years with a zero to negative return adjusted for inflation ("real return") actually reducing risk? Or does it just remove some of the short-term volatility of investment returns at the expense of taking much greater long-term inflation or "purchasing power" risk?
The chart above shows this is what happened to bonds for the 50-year period from 1941 to 1990. Regardless of the maturity, bonds trailed inflation (CPI) while stocks produced significant "real" returns. This is not to say there is no merit to a bond allocation in a long-term portfolio. Just that holding a large percentage of your assets in a low risk/low return asset might just increase a risk you haven't fully considered.
Do you have an appropriate stock and bond mix for your long-term financial goals? Are your stocks broadly diversified, and do you own the right types of bonds? If you would like a second opinion on your investment plan please contact us, we are happy to discuss your financial situation further.
Past performance is not a guarantee of future results. Index performance shown includes reinvestment of dividends and other earnings but does not reflect the deduction of investment advisory fees or other expenses except where noted. This content is provided for informational purposes and is not an offer, solicitation, recommendation or endorsement of any particular security, products, or services.