Ask Carrie: Retirement Ahead: Do You Have Enough Exposure to Stocks?
Creators Syndicate | 4/23/2014, 7 a.m.
BY CARRIE SCHWAB-POMERANTZ
Dear Carrie: My parents plan to retire in 5-7 years. They have several income sources, including rental properties and 401(k)s that are invested in target retirement funds. These funds are quickly moving them to less than 30 percent in stocks. With the potential of a 30-year retirement, I'm concerned that they need more exposure to stocks. What do you think? -- A Reader
Dear Reader: You're doing your parents a big favor by asking this question. No matter how well-prepared we are, it's always a good idea to look under the hood to make sure all parts of the financial engine continue to run smoothly and work together. The fact that your parents have several sources of income is a real plus, but you're right to be concerned about whether their stock exposure is adequate -- both for now and the future.
It sounds as if you're able to talk to your parents freely about their finances, so here are some things the three of you can discuss to perhaps help them do a retirement tune-up.
UNDERSTAND WHY STOCKS ARE IMPORTANT
Historically, stocks have been the best investments for keeping up with inflation, consistently outperforming other asset classes. Although currently, inflation is low, the average annual rate of inflation over the last 87 years has been roughly 3 percent. The average for the 1970s and 1980s was 6.7 percent.
Of course, investing in stocks carries a certain amount of market risk. But consider that, even with a mild inflation of 3 percent, $100,000 today will be worth only about $55,000 in 20 years. That's a pretty big risk in itself. So you don't want to ditch stocks -- and their potential for growth -- completely.
That said, you also want to make sure you diversify your stock investments. That means having a mix of small-cap, large-cap and international stocks, as well as a mix of industries and companies within those categories. While diversification cannot ensure a profit or eliminate the risk of investment losses, too much of any one stock carries a major risk of its own. Think mutual funds and exchange-traded funds for easy ways to get this diversification.
GET A BIG-PICTURE VIEW OF YOUR OWN RETIREMENT NEEDS
With this perspective on stocks in mind, and with retirement 5-7 years out, now is the time for your parents to get specific about their retirement plans. For instance, what are their estimated annual expenses in retirement? How much of this will be covered by reliable income sources like Social Security or real estate investments? How much will have to come from their portfolio?
An industry standard is that your retirement portfolio should be 25 times the amount of your first year's withdrawal to increase the odds of your money lasting through a 30-year retirement. That way you can withdraw an average of 4 percent per year (increasing every year with inflation) and have about a 90 percent chance that you will not run out of money -- assuming you keep a minimum of 20 percent of your portfolio in stocks.