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Comparing Stocks & Bonds for Retirement: Balancing Allocation

Comparing Stocks & Bonds for Retirement: Balancing Allocation

Many people assume that stocks are riskier compared to bonds. Should this be true, you will have mutual funds in a bond-oriented portfolio, which will be less risky than a stock-oriented portfolio. 

Understanding the Ideal Asset Allocation

Many investors getting ready for retirement are keen on knowing the portion of their portfolio will be invested in bonds and stocks. They also want to know the right mix of such assets to qualify for growth or income from such a portfolio. Whatever your aim in retirement is: growth or income, your asset allocation should correlate as it is primal to the success of such a goal. 

For a lot of investment managers, they prefer strategies where age majorly determines the recommendation of allocation. In the long term, however, this might not be helpful. As an example, the life expectancy for every 60 years senior is not the same. You might want to leave a legacy to your descendant or direct all your funds to retirement. Such are personal factors that one might overlook in asset allocation for a traditional setting. 


Reasons Bonds Might be Saved.

Investors, most of the time, believe a large portion of their portfolio should go to bonds for many reasons. They assume:

  • There will be a steady stream of income from bonds, which retirees need to take care of living costs

  • The volatility of bonds is lower, giving them an advantage against market risk

  • To reduce risks, many financial advisors typically recommend that people about to retire direct more funds to bonds. 


Low Returns might bring down the duration that your portfolio will provide during your investment time.

Inability to secure more money during retirement can be devastating, especially if you have a long life expectancy. Many things might make you deplete your funds, like the rising cost of living, higher medical costs, inflation, etc. 

The rise in medical tech has also increased the average investor time, triggering a corresponding growth increase to meet long-term goals. 


Low Volatility Does Not Correspond to Low Risk

Many investors believe that stock investment is riskier than bonds, referring to the higher volatility of a stock. However, short term volatility does mean it will be volatile for a long time. Interestingly, over more extended periods, the volatility of equity is lesser than bonds. 

Since the stock market gains have performed better than bonds over the years, a portfolio allocation centred on stocks can supply the necessary growth that will take care of your retirement.

 

Inverse Relationship from Bond 

Your bond allocation might not benefit from the rise or fall of interest rates. There is an inverse relationship between the price of bonds and interest rates. In other words, they move in opposite directions. As a result, 

  • Bond prices rise when the interest rate falls

  • Bond prices fall when the interest rate rises

Reinvesting in bonds when yields are low might lead to more expenses for little return. On the other hand, switching to bonds with higher yields might mean investment in riskier bonds. This might be because of the low credit quality or extended maturity period. 

Take the opposite into consideration as well – something in which the interest rate rises higher. You might need to transform your bonds to cash because of unplanned expenses like a substantial medical bill, or house purchase. Cashing out your bonds with a high-interest rate might change to loss of money as you might receive lesser value for such bonds than what you paid.


Conclusion

With this, using a bond for return might be the best idea. The primary benefits of bonds can help bring down the volatility of a portfolio. This feature is not the goal of everyone. However, if you have a huge need that requires more cash flow, it can be a good idea to help reduce the swings coming from the stock market. 


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Pat Raskob
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