Why ‘Playing It Safe’ in Retirement Can Cause Financial Trouble
On the surface, it seems much less risky to keep your money in certificates of deposit (CD) and high-yield savings accounts than investing in the stock market. But even though stocks can be volatile, keeping your money on the side is not without risk.
Sticking with cash and cash equivalents may make you more comfortable in retirement, but it’s important to invest some of your money so it can grow and beat inflation.
The erosion of inflation
High-yield savings accounts and CDs have a place in retirement planning, but they won’t keep pace with inflation like risky assets will. And remember that even if the annual percentage yield (APY) you earn is slightly above the rate of inflation, the interest you earn is considered taxable income.
Inflation doesn’t even have to be as high as it has been in recent years to have a negative impact on your finances. Consumer prices rise quietly over time, eating away at your purchasing power. Stocks, bonds and other investment assets give investors an opportunity to outpace inflation.
Before going all in with the money, consider the opportunity cost.
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The potential for compound growth
Aside from inflation, you also want your portfolio to grow to cover your long-term goals and unexpected expenses in retirement, such as rising health care costs. Retirees shouldn’t go completely into stocks, but investors who don’t own growth-oriented assets are at risk of outgrowing their nest eggs. These people may have to downsize, go back to work or make other difficult decisions.
You can gradually reduce your stock exposure as you get older, but it’s still important to have assets that can beat inflation. Gold and other precious metals can be an important additional investment to achieve that goal.
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Balance is important
The best retirement portfolios are not committed to just protection or just growth. You need the right balance of both types of assets in your nest egg to avoid losing money due to inflation and to make yourself less vulnerable to stock market downturns.
Balancing a portfolio between stocks, cash, bonds and other assets requires knowing your financial situation and planning accordingly.
Financial advisors generally recommend that you save enough cash to cover your living expenses for three to six months, and that increase for one to two years in retirement. As for your mix of stocks, bonds and other assets, the right balance will depend on your risk tolerance, financial situation, time horizon and goals.
Here’s an example from Charles Schwab of how you can change your portfolio allocation over time. People aged 60-69 may want to have an average portfolio of 60% stocks, 35% bonds and 5% cash or cash equivalents. When they turn 70, they may want to adjust that to 40% stocks, 50% bonds and 10% cash. Then when they turn 80, they can choose a conservative portfolio of 20% stocks, 50% bonds and 30% cash.
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