7 Diversification Strategies for a Resilient Retirement Portfolio


Pears2295 / Getty Images

Pears2295 / Getty Images

Retirement advice often suggests that a retirement portfolio needs to be diverse, but what does that actually mean?

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“Many retirees misunderstand diversification, presuming it solely involves spreading funds across different bank accounts or varied financial products,” said Tammy Trenta, a financial planner, founder and CEO of Family Financial LLC. “However, true diversification centers on exposure to diverse asset classes, aiming to minimize risk and enhance financial stability.”

She and other experts explain what a truly resilient retirement portfolio looks like.

Don’t Just Contribute — Invest!

If you’re just contributing money to your retirement accounts but forgetting to invest that money, then you won’t have any risk or reward to think about, according to Crissi Cole, founder and CEO at Penny Finance. If you’re not investing, your money isn’t growing.

“The key is investing your entire account from Day 1,” Cole said, “and tweaking those investments for your age.”

As you get older, and closer to retirement, you’ll want to become more conservative, she said, investing less in stocks and more in bonds while always always diversifying. “This means spreading your money across a variety of investments and asset classes.”

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Create a Target Retirement Fund

“For new or passive investors [who] want to set up their retirement investments easily and put them on auto pilot, target retirement mutual funds are a good approach,” Cole said.

In this type of investment, you pick your retirement year and the mutual fund diversifies and tweaks the investments as you get closer to retirement. These tend to get more conservative the closer you get to retirement.

Look Beyond Traditional Allocations of Stocks and Bonds

Traditional asset allocation has a history of failing when you need it most, according to Steven Neeley, CFP and financial advisor with Fortress Capital Advisors.

For example, he pointed out, a lot of retirees hold bonds in their portfolios, not for the income, but to reduce volatility and risk.

“History shows, however, that there are plenty of periods where both stocks and bonds fall in tandem — 2022 being the most recent example,” he said. “What happens is that these investors capture a low percentage of market upside and a higher percentage of the downside than anticipated, resulting in mediocre returns and portfolios that are not very resilient.”

A lot of the so-called “alternative investments” that you see added to portfolios, such as equity funds, tend to fail in almost the exact same way and lead to similarly mediocre results, he said.

“A far better strategy is combining stocks with strategies that have a long and robust history of working well during the worst of times, generally crises and periods of high inflation.”

This could include:

  • Managed futures. Futures are an investment based on a future agreement to buy or sell an asset for a set price.

  • Gold. Neeley said, “Gold has been the ultimate hedge against uncertainty for millennia.”

  • Tail risk hedging. This strategy is essentially like buying insurance on the stock market, Neely explained. “You accept small losses over time; but, when the market tanks, tail risk hedges typically go up hundreds of percent.”

Control Volatility

Kevin Ross, a chartered financial consultant with Cape Securities Inc., suggested that it’s important to consider “volatility management.” He explained that portfolios have two phases: the accumulation phase, where you are adding funds to the portfolio, allowing it to sit and grow; and the distribution phase, where you begin making periodic distributions from the portfolio to fund retirement expenses.

“Any seasoned advisor worth his/her salt knows that everything changes when you begin taking distributions,” Ross said. “Mistakes that you got away with during the accumulation phase can bankrupt your portfolio in the distribution phase. It is critical to control volatility.”

The worst-case scenario is that a portfolio runs out of money. To avoid that you want to have a portfolio with high enough cash flow so there’s no need to sell assets to meet income needs.

The Suntan Lotion and Umbrella Company Analogy

Ross gave an analogy of having a portfolio that is invested in such a way that it’s like having both a “suntan lotion company and an umbrella company.” While both companies are averaging a 10% return, they each derive their returns at different times.

“When the weather is sunny, the suntan lotion company is doing well. When the weather is rainy, the umbrella company is doing well,” Ross explained. “This gives you more flexibility to pivot to an investment that’s doing well in order to meet your income needs and avoid the retirement kiss of death, which is needing to liquidate assets for income when the share price is down sharply.”

This puts an investor in a much better position to ride out bad markets, he said.

“If the cash flow generated from the investments is sufficient, it doesn’t matter nearly as much if the share price fluctuates downward in a down market since the retiree isn’t selling any shares,” he said. “They are living off of the interest generated by the shares, not selling shares.”

Strategic Correlation Management

If this approach is not sufficient to meet expenses that exceed what the portfolio can generate on a cash flow basis, Ross said a secondary approach is strategic correlation management.

“Correlation is how different securities in your portfolio behave in relation to one another,” he said. “There are also a host of securities that are capable of absorbing a limited amount of downside risk. Blending in these types of investments further helps to insulate a portfolio against inevitable market downturns.”

For those concerned about potentially outliving their savings, he suggested adding in some annuities, which guarantee an income stream for as long as you live.

Avoid the 60/40 Equities/Bonds Portfolio

Ross called the commonly held retirement portfolio approach of 60% equities and 40% bonds “dangerous” because both equities and bonds can drop at the same time.

Instead, he said, “True diversification encompasses a broad spectrum — equities, fixed income, precious metals, real estate, commodities, momentum strategies, buffered strategies, private equity, foreign exposure, currencies, etc.”

Most important: Speak to a financial advisor to help you make informed retirement portfolio decisions.

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This article originally appeared on GOBankingRates.com: 7 Diversification Strategies for a Resilient Retirement Portfolio


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