Archives
I Enrolled… Now What?
Last Updated: April 16, 2012
By far the most important thing you can do to get ready for retirement is to just get started. But after you decide to begin saving, you must decide where to invest that money.
First, let’s review some of the choices you are likely to have inside your retirement plan. Every retirement plan should at least have three investment types: cash, bonds and stocks. Within each of these types you will probably have several more choices. The majority of your investment return will come from how you divide your money among these categories, referred to as asset classes.
Cash. We all know what cash is. You invest in a cash investment because you don’t want it to lose value, and your cash will pay you a small interest rate while it sits there.
Bonds. Investing in bonds is in essence loaning your money to some government or company and having them pay you interest. The bonds that you buy should pay higher interest than a cash investment. There is a risk that the entity that borrowed the money won’t be able to pay it back.
Stocks. When you buy stocks, instead of loaning money to a company, you are actually buying a piece of the company. As part-owner of the company, your investment will go up or down in value based on how the company’s business is performing.
So how do you know how much to put in each area? There are a couple of factors to consider. The first factor is your time horizon, or how long you have until you need the money. Are you five years from retirement? Twenty years? Thirty-five years? The more time you have until retirement, the more you can devote to stocks at the expense of cash and bonds. The second factor to consider is your own personal tolerance for risk. In other words, how do you feel about seeing your account value fluctuate?
Both of these factors vary for each individual. There is not a set investment mix for each situation. You may not even know your time horizon or risk tolerance. If you are in this situation, you can start by completing a risk/time horizon questionnaire to help you determine your needs. You might find a questionnaire on your retirement plan’s website. Another alternative would be to meet with a Certified Financial Planner™ who could discuss your options with you.
After you have identified what type of investor you are you can build your retirement portfolio. Remember, every account mix can be different, as no two investors are exactly the same. If you still need help determining what to buy, your plan may have some model portfolios already built for you. Just plug in your results from the questionnaire and you will be directed towards an asset mix that will typically be appropriate for your situation. Your plan may also be able to connect you with a financial adviser that can give you some pointers.
No matter what your situation, here are a couple rules of thumb:
• The less time you have left until retirement, the more you will want to allocate to cash and bonds.
• The more time you have left until retirement, the more you can allocate to stocks.
• The less you like to see volatility in your account value, the more you should have in cash and bonds.
• If you don’t mind seeing some fluctuation over the years, you might be able to have more exposure to stocks.
Once you’ve determined your portfolio mix, you should monitor your account. Just because you pick an investment mix that makes sense today, does not mean that it is appropriate for the next several decades. It is wise to review your retirement account to ensure it is still performing as you intended at least annually.
PCI’s archived blog entries are dated, the rules and statutes referenced may have changed. The analysis or guidance within these blog entries may have become stale, dated, or no longer accurate. PCI will not update or change these entries to reflect the latest analysis or development.
