Does The Calculation “120 Minus Your Age” Make Sense Anymore?
“For years, pre-retirees have been told to follow a “120 minus your age” investing formula. But, do dramatic shifts in the economic landscape make that advice obsolete?” Eric Coons
A fundamental principle for an investor is the gradual reduction of risk as you approach retirement age. It makes sense because retirees generally don’t have the luxury of time to wait for the
market to rebound after a correction. The problem, however, is how to determine exactly how safe your portfolio should be relative to your financial life stage.
Is “120 Minus Your Age” still a good idea?
The most commonly cited rule of thumb, designed to simplify asset allocation, says that you should subtract your current age from 120 and invest that percentage into stocks and other equities. The remainder should go into safe money products, such as annuities. A typical 50-year-old, then, would have 70% of their portfolio allotted to stocks, while 30% goes into annuities, high-grade bonds, government debt, and other assets considered to be relatively safe.
While this easy-to-cipher guideline does remove some complexity from the retirement planning process, it may not work well in the 21st Century. One apparent reason for re-thinking the age minus 120 guidelines is that American life expectancies have risen significantly. A longer life expectancy means that many people will have time to pursue more growth-focused assets and recover from market dips. Another hitch in the 120 guidelines is that U.S. Treasury bonds now pay only a fraction of what they once paid. For example, in March of 2020, a 10-year treasury was yielding less than 1% annually.
Using the 120 Rule as a starting point only
When considering the proper balance for your retirement portfolio, it is vital to understand that guidelines such as age minus 120 are simply starting points to help you focus on the big picture of retirement. There are multiple factors to consider and a significant amount of customization that must take place. For example, a woman entering retirement must be mindful that she may live five years longer than her spouse and encounter higher costs. Therefore, if you are a woman, you have more incentives to take on a more significant amount of risk.
One of the dangers of sticking with rules of thumb is that seniors may be more inclined to attempt all the planning themselves without an advisor’s input. These retirees and pre-retirees then risk missing out on growth opportunities or exposing too much of their nest eggs to risk. Sound financial planning using an experienced advisor or advisory team is essential to creating the best asset mix for your particular needs and risk tolerance.
The bottom line:
Rules of thumb for portfolio balancing can help plan for retirement. However, they are not complete tools as they do not consider a person’s risk tolerance, amount of savings, or job security. In addition, while every portfolio needs reliable income sources generated by safe money products, longer lifespans increase the danger of becoming too conservative and having one’s savings eroded by inflation.
For these reasons, it is a wise idea to meet with experts in retirement and income planning who can look at your current investment matrix and create a balanced blueprint to keep you from running out of money when you need it most. 21st Century complexities make sound retirement planning more challenging than ever. Having a trustworthy advisor to assist you is one of the best methods to ensure your success both now and when you no longer work.