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Wednesday 14 December 2022 by Jonathan Sheridan Education (basics)

Different portfolio strategies as you age

You’ve worked so hard to build your portfolio, but as you age, investment strategies may need to be revised from growing returns to protection of capital. Whether you’re a young investor or over the age of 65, here are some considerations to help you transition your portfolio through the years

We all know that time in the market and compounding are key to successful, long term investing. Very general rules such as not putting all your funds into one investment and diversification should apply no matter how old you are. But investment strategies and risk need to be rethought as you age and your nest egg grows because at some point you need to switch from thinking about outright returns, to protecting what you’ve worked so hard to build.

Young investors < 50 years

When you are young and just starting out it’s appropriate to chase high returns and accept high risk as you don’t have much to lose and are trying to accumulate capital. During the early years is the time to take chances, predominantly investing in higher risk assets like shares and property.

At this point in the lifecycle many investors will be paying off a mortgage or two, and may have childcare and school fee expenses, absorbing the majority of earnings.

We’d suggest a split between defensive and risk assets of 30/70, although both of the percentages could be higher. A young couple saving for a home might have practically all of their investments in defensive assets, while those with no intention of buying property or having children may really ramp up higher risk and higher return investments.

We also can’t assume that young people haven’t already got considerable wealth. Think about an international sports star or musician making a lot of money. There’s no guarantee that the high incomes will continue, and they should be thinking about setting aside a reasonable sum into low risk defensive assets, just like a retiree, as they don’t know how long they have to make the funds last!

Peak wealth investors – over 50 years and into the first few years of retirement circa to 65

Just before you plan to retire and for the first few years after it, you need to be more protective of the capital you’ve built over your working life.

At this point, we would suggest you start transitioning your portfolio by increasing the value of your defensive assets which include bonds to an even 50/50 split.

Most investors do not have the time to recover from a severe market disruption such as a GFC type event where the value of shares plummeted by more than 50% or the COVID-19 pandemic where in one-month the ASX200 declined by 36% from its peak (20 February 2020) to its low (23 March 2020). So, time to take some risk off the table.

We commonly see investors holding too much in cash and earning low returns. A good one year term deposit rate is around 3.7%p.a. at the moment, which is much better than it has been over the last couple of years but still well under what you could earn in bonds. It’s worth exploring corporate bonds which are also good defensive assets. They are a little more risky than deposits, so pay more. I’d usually say that a low risk corporate bond portfolio would pay 1-2%p.a. more than deposits throughout the economic cycle.

The bonds also have some advantages over deposits – they’re typically tradable and unlike a term deposit, do not incur penalties if you need to access your capital and they can earn higher than expected returns.

Retirees >65 years

In retirement there are a few great unknowns:

  1. How long you will live (also known as longevity risk)
  2. If you can make your funds last
  3. Your capacity to rejoin the workforce and thus derive a steady income if you need to
  4. The rates of return available on your investments
  5. Inflation risk
  6. Sequencing risk

It’s been shown that retirees spend quite a lot straight after retirement as they travel and do things they have been waiting to experience. While they can possibly defer retirement or re-enter the workforce as back up plans, neither is guaranteed (or desirable) and so investors in this age bracket should transition to a predominantly defensive asset class allocation.

We suggest a 70/ 30 split. If you haven’t saved enough, now is not the right time to invest in high risk assets and lose valuable capital - better to largely preserve what you have. That means holding more in bonds and perhaps an annuity.

The impact of holding more defensive assets might surprise you. Vanguard shows the return of Australian shares, bonds and cash over the last 30 years, with shares only outperforming bonds by <2% p.a., for a lot more risk and volatility, and typically over time reverting to closer to the bond performance.

When lower risk investment grade bonds can return through the cycle around 2% p.a. more than cash, it would seem a great time to put some of that cash to work in a lower risk asset class than can still deliver strong returns, and also consider changing your asset allocation to one more suitable in terms of capital preservation, relating to your age.