Goal-Based Asset Allocation Will Limit Investment Anxiety


People confuse “risk” with “volatility” – the amount a financial asset can rise or fall in value in a day.

We define risk as “the chance that the money won’t be there when it’s needed”. If a client has to pay taxes or close on a home within three months, we must secure those funds in a money market account with no risk or return.

For long-term financial needs, such as retirement in more than five years, volatility risk is irrelevant. The risk we face is “longevity risk”, ie the possibility that a family will outlive its retirement assets.

Investors often make the mistake of holding all of their financial assets in one account and then failing to properly invest that account with their multiple needs in mind.

Goal-Based Asset Allocation

“Goals-Based Asset Allocation” is the process of dividing our clients’ money into as many buckets as needed to provide peace of mind for the future. A “compartment” refers to a specific financial objective.

During client discovery conversations, we ask open-ended questions to list and elucidate any concerns a family may have. The list for a 40-year-old married couple with children might include:

  • To buy a house
  • Saving for retirement
  • Build Tuition Funds
  • Tax Budgeting
  • Create a safety net

We create as many investment accounts as needed to meet each need.

Thereafter, we attribute a different asset allocation to each compartment. The upcoming tax payment will remain in a bank current account earning nothing, but good to do.

We invest family retirement accounts 100% in stocks. These funds must grow as much as possible over the next 20 to 30 years.

We include bonds – 20% to 30% of the investment allowance – in the 529 plan for a child going to college next year. Bonds are earning 3% a year or less these days, but we want to make sure we can pay tuition on time.

Investing retirement money aggressively may seem counterintuitive. Why take risks with a nest egg? We commonly see clients’ retirement accounts overweight bonds or worse, invested in guaranteed interest funds yielding less than 2%.

We calculate that a 401(k) earning 2% per year will double in value after 35 years, while a 401(k) invested in stocks earning 7% per year will double every 10 years and grow 10 times larger after 35 years. compared to the “conservative” portfolio.

As our clients approach retirement, we adjust asset allocations to prioritize reliability over maximum growth, increasing bond allocations between 20% and 30% and, upon retirement, between 30% and 40 %.

The expected return may drop to 6% per year, but we can reasonably distribute an annual draw to the client family of 4% to 5% per year and never run out of money. In nearly three decades of working with retired clients, we have never reduced a client’s monthly retirement drawdown due to stock market volatility.

Invest with a purpose

Whether a family works with a financial planner or wealth advisor or directly manages their investments, everyone can benefit from goal-based asset allocation. Make a list of financial needs and goals for the next five years. Then target specific portfolios to meet each of those needs.

Distribute assets according to periods. For needs of a year or less, keep the money in bank accounts or money market accounts. The funds needed over the next five years should be invested in bonds. For goals longer than five years, we recommend equities (US and international markets) for maximum growth.

Look at the overall distribution of assets across the household. Young investors with a stable income and no dependents should invest heavily in stocks.

Middle-aged families might have an overall asset allocation of 80% stocks and 20% bonds, while families approaching retirement might split their assets 75/25 or 70/30.

Retiring families require income stability rather than asset growth and would invest at 65/35 or 60/40.

Determine the purpose and the period. Then choose the asset allocation that will achieve the desired outcome.

David Edwards is President and Wealth Advisor at Heron Wealth, a $500 million registered investment advisor based in New York City and working with 225 client families in the United States and around the world. Dustin Lowman contributed additional research for this column.


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