(PUB) Investing 2016

17

February 2016

Morningstar FundInvestor

when determining your portfolio’s asset allocation. Do you have a track record of running for the exits when the going gets rough for your stock portfolio? If so, consider nudging your equity allocation down a bit and your cash and bond cushion up relative to recomended allocations for investors at your same life stage to improve the odds that you’ll stick with the program in periods of volatility. Just remember that a more conservative portfolio may necessitate changes else- where in your plan—for example, the lower your equity weighting, the lower your withdrawal rate should generally be. 4 | Not Factoring in Nonportfolio Income Sources The reason that making one-size-fits-all asset-alloca- tion recommendations is so difficult is that no one but you knows all of the pieces of your financial life. (This is why a financial advisor can be so valuable, in that he or she can make recommendations based on your own variables.) One of the biggest factors that can affect an individual’s asset allocation, both leading up to and during retirement, is the presence of other in-retirement income sources, above and beyond what the portfolio will supply. Here, I’m talking about Social Security or pensions, mainly, but fixed annuities as well. If those stable income sources will supply most or all of your needed income in retirement, your risk capacity (see above) is high and you should be able to withstand a higher equity weighting, at least in theory. Retirees with limited stable income sources, by contrast, will need to batten down the hatches with the parts of their portfolios they’ll spend within the next several years. They’ll need higher weightings in cash and bonds. 5 | Not Factoring in Nonretirement Goals In a related vein, successful asset-allocation plans should take into account other goals—in addition to providing cash flows during retirement—that you have for your portfolio later in life.

A common example of such a goal would be to leave assets behind for children, grandchildren, or charity; individuals for whom this is a priority will generally want to maintain a more equity-heavy posture in their long-term portfolios than individuals who aren’t aiming to make bequests. Not only do they have a greater incentive to make their portfolios grow, but they also have a longer time horizon for their assets than investors who are using the “last breath, last dollar” approach to portfolio management. (Of course, some retirees view their homes as the chief asset that would eventually be sold to benefit their heirs; a desire to make that type of bequest wouldn’t have an impact on the positioning of the investment portfolios.) 6 | Having a Fuzzy View of Your Asset Allocation If you hold individual stocks and individual bonds, or your portfolio consists entirely of index funds, it’s easy to keep tight rein on your portfolio’s asset allocation. But maintaining oversight and control over your portfolio’s asset allocation can be trickier if you hold actively managed funds. That’s because what you see isn’t always what you get. Domestic- equity funds may hold foreign stocks, bond funds may be hoarding cash, and allocation funds may shift their stock/bond weightings around. Your portfolio’s asset allocation may not be what you thought it was. Morningstar.com’s portfolio X-Ray function can help solve this issue by letting you view your portfolio’s actual allocations, based on the composition of your holdings. For investors who own actively managed funds, they’re often surprised by their large cash weightings in the X-Ray view. That cash is apt to give the portfolio better downside performance than if it were fully invested, but it isn’t available to serve as spending money or your emergency cushion. For that reason, it makes sense to consider your cash needs for near-term expenses—bucket one in my bucket framework—apart from what you see in X-Ray. K Contact Christine Benz at christine.benz@morningstar.com