How Much of My Money Should Stay In Safe Investments?
And how does time until retirement affect my investment choices?
Investing isn't a set-it-and-forget-it endeavor. Your portfolio should change over time and as your financial profile matures. When you're younger you can afford to take more risk but as you age, you will likely move more funds into safe investments.
Portfolio investment isn't the only reason to hold safe investments. You need an emergency fund. Keep enough money in liquid, safe investments to cover, at a minimum, 3 to 6 months worth of living expenses. This means if you need $2,000 per month to live comfortably, you should have $6,000 - $12,000 in safe, easily accessible investments like bank savings accounts or money market funds.
Keep these 2 rules of thumb in mind:
- The less secure your employment, the more money you want to keep in safe investments.
- The closer you are to retirement, the more money you want to keep in safe investments.
For Those Far Away from Retirement
For money in IRAs and other retirement accounts, invest for growth and don't worry too much about the market fluctuations. If you have 15 or more years until you will use the money, who cares what the market is doing this week, this month or this year? Focus on getting the highest potential long-term return.
One caveat--unless you have proven experience as an investor, don't invest your own money. Trying to make a quick profit with your future retirement funds is a really bad idea.
For Those Retiring in the Next Few Years
Have 3 to 10 years worth of withdrawals in safe investments, like money market funds, certificates of deposits, agency bonds, treasury securities, and fixed annuities. One way to do this is to create a bond or CD ladder, where each year a safe investment matures, and the principal becomes available to you. Ideally you start this process about 10 years from your desired retirement date.
This safe money is the money you will use for living expenses during your first few years of retirement. This strategy of taking little risk with this portion of your portfolio allows you to leave the remainder of your investments invested for growth, potentially providing some protection against inflation. When your growth investments have a good year, you take profits and use the proceeds to replenish the safe investments that you have been using to fund your living expenses.
When is the Right Time to Switch To Safe Investments?
You should switch to safe investments on a scheduled plan so that by the time you reach retirement you have enough money in safe investments to meet your income requirements for many years.
Special considerations come into play in the 10 years prior to your desired retirement age. In this 10 year window, every time your risky investments have a year with above-average returns, you should take profits and increase the amount of money you have allocated to safe investments. Unfortunately, most investors do not do this. Instead they buy risky investments after they have gone up in value and then sell them in a panic after they have gone down in value.
Don't Become Too Safe
Safe investments are critical to portfolio diversification and maintaining financial security if unplanned events occur but if your portfolio is too safe, you may find yourself not producing enough income to reach your financial goals.
If you're somebody who hasn't saved enough for retirement, you may have to keep your level of risk slightly higher going into retirement to produce more income.
Unless you're a seasoned investor, evaluating your risk profile is best left to a professional. Talk to a trusted financial adviser and ask them to create a plan to sets you on a strong financial foundation without risking too much.