If you are approaching retirement, you may be preparing for big changes. These could include downsizing your home, moving to another part of the country, and going from working 40 hours a week to not having to work at all.
You may also be inclined to make changes to your portfolio as you approach retirement. And this is a good thing.
You can afford to take on more risk in your IRA or 401(k) plan when retirement is many years away. But as that stage gets closer, it’s a good idea to turn to more conservative investments, like bonds.
Since the start of the year, the stock market has been sending investors into a frantic race – a race that most people would have preferred to ignore. And so, if you’re about to retire, keeping a large portion of your portfolio in stocks is quite a risky prospect.
But that doesn’t mean you should get rid of your stocks entirely at the end of your career. And if you go that route, you might regret it bitterly.
You still need equities to generate growth
The logic of switching to bonds as you approach retirement, or once you’ve retired, is simple. At this point, chances are you’re regularly dipping into your wallet and living off your savings. And so you can’t risk a scenario where your portfolio value drops by 30% over a two-month period due to a stock market crash.
But while it’s a good idea to reduce your stock holdings as you approach retirement, you should still keep a good portion of your portfolio in stocks. The reason? You need these stocks to continue generating growth in your nest egg.
If you’re nearing retirement, you may have heard of the 4% rule, which states that if you start by withdrawing 4% of your savings to balance your first year of retirement and adjust subsequent withdrawals according to the inflation, your nest egg should last a good 30 years. For many seniors, this will be enough to cover them for the duration of their retirement.
But for that 4% withdrawal rate to be possible, your investments must continue to work for you. And if you get rid of your stocks completely, you probably won’t generate enough growth in your portfolio to maintain a 4% withdrawal rate. (By the way, many believe the 4% rule is now obsolete – but that’s another discussion.)
Take it easy with stocks, but don’t let them go completely
The percentage of your portfolio you keep in stocks during retirement should depend on a number of factors, including your various sources of income and your tolerance for risk. But for the most part, you probably don’t want more than 60% of your assets in stocks when you retire. And you probably don’t want less than 30%. So from there, you can look at your personal financial situation to figure out where you land.
Also, remember that stocks have the potential to generate dividend income for you. And that could end up being a very useful thing once you stop earning a salary from a job.