Think of an investment portfolio as a basket that holds all of the investments you have in your various retirement and non-retirement (taxable) accounts. Ideally, your portfolio grows with you and provides the income you need to live out your post-work years in comfort. If you’re saving for retirement—and investing for retirement—be sure your portfolio has these key characteristics.
- An ideal portfolio should contain a growth component, particularly in your younger years.
- Later in life, the focus shifts from growth to income.
- No matter your age, it’s essential to diversify and rebalance your portfolio as your goals, risk tolerance, and time horizon change.
What Is an Investment Portfolio?
An investment portfolio encompasses all the investments you have in various accounts, including:
- Employer-sponsored plans like 401(k)s
- IRAs (traditional, Roth, SEP, SIMPLE)
- Taxable brokerage accounts
- Robo-advisor accounts
- Cash in savings, money market accounts, or certificates of deposit (CDs)
Those accounts can hold different types of assets, including (but not limited to) stocks, bonds, exchange-traded funds (ETFs), mutual funds, commodities, futures, options, and even real estate. Together, these assets form your investment portfolio.
If you’re investing for retirement, an ideal portfolio would be one that meets your financial needs for the rest of your life. The following characteristics help make that happen.
Retirement plans are designed to grow over long periods of time. Growth instruments such as stocks and real estate typically form the nucleus of most successful retirement portfolios—at least when they’re in the growth phase.
It is vitally important to have at least a portion of your retirement savings grow faster than the rate of inflation, which is the rate at which prices rise over time. Doing so allows you to increase your purchasing power over time.
Data from Kiplinger.com shows that stocks have posted by far the best returns of any asset class over time. From 1926 to 2018, stocks averaged about 10.1% growth per year. Bonds averaged only about half that rate, and cash posted about 3.5% growth.
For this reason, even retirement portfolios that are largely geared toward capital preservation and income generation often maintain a small percentage of equity holdings in order to provide a hedge against inflation.
The amount of per-year growth that stocks have averaged between 1926 and 2018.
Diversification will take a different form over time as you approach retirement age. When you’re in your 20s, you may only need to diversify your portfolio among different types of equities, such as large-, mid-, and small-cap stocks and funds, and perhaps real estate.
Once you reach your 40s and 50s, however, you will probably need to move some of your holdings into more conservative sectors. These include corporate bonds, preferred stock offerings, and other moderate instruments that can still generate competitive returns—but with less risk than pure equities.
Alternative investments, such as precious metals, derivatives, oil and gas leases, and other non-correlative assets, can also reduce the overall volatility of your portfolio. They can also help generate better returns during periods when traditional asset classes are idle.
An ideal retirement portfolio will also not depend too heavily on shares of company stock that are held either inside or outside your 401(k) or other stock purchase plan. A big drop in value could drastically alter your retirement plans if it constitutes a large percentage of your retirement savings.
Investing After the Golden Age
Once you’re at or near retirement age, your risk tolerance changes, and you need to focus less on growth and more on capital preservation and income. Instruments such as certificates of deposit (CDs), Treasury securities, and fixed and indexed annuities may be appropriate if you need a guarantee of principal or income.
Generally, however, your portfolio should not become exclusively invested in guaranteed instruments until you reach your 80s or 90s. An ideal retirement portfolio will take into account your drawdown risk, which measures how long it will take you to recover from a large loss in your portfolio.
Active vs. Passive Management
Investors today have more choices than ever when it comes to who can manage their money. One of these choices is active vs. passive portfolio management. Many planners exclusively recommend portfolios of index funds that are passively managed.
Others offer actively managed portfolios that may post returns that are superior to those of the broader markets—and with less volatility. However, actively managed funds typically charge higher fees, which is important to consider since those fees can erode your investment returns over the years.
Another option is a robo-advisor, which is a digital platform that allocates and manages a portfolio according to preset algorithms triggered by market activity. Robo-advisors typically cost far less than human managers. Still, their inability to deviate from their programs may be disadvantageous in some cases. And the trading patterns they use are generally less sophisticated than those employed by their human counterparts.
Robo-advisors may not be the best choice if you need advanced services such as estate planning, complicated tax management, trust fund administration, or retirement planning.
The Bottom Line
Conceptually speaking, most people would define an “ideal” retirement investment portfolio as one that allows them to live in relative comfort after they quit the working world.
Your portfolio should always contain the appropriate balance of growth, income, and capital preservation. However, the importance of each of these characteristics is always based on your risk tolerance, investment objectives, and time horizon.
In general, you should focus your portfolio either mostly or completely on growth until you reach middle age, at which time your objectives may begin to shift toward income and lower risk.
Still, different investors have different risk tolerances, and if you intend to work until a later age, you might be able to take greater risks with your money. The ideal portfolio is thus always ultimately dependent upon you—and on what you are willing to do to reach your goals.