What Is Capital Preservation, And How Can You Achieve It?
“If you’re approaching retirement and have a low risk tolerance, a capital preservation strategy may be your best option.”- Jeff Kennedy
People who are approaching retirement or are already retired typically find that their desire to take on more risk has lessened considerably. This aversion to risk is why many seniors choose more conservative investment paths, such as capital preservation. Capital preservation aims to mitigate against loss inside a retiree’s portfolio by using specific products associated with minimal risk.
As you age, cash and capital become more vital components of your financial life. Your time horizon is shorter, meaning you’ll have much less time to bounce back from a market downturn. Rather than growth, safeguarding your accumulated wealth is the primary impetus for creating a capital preservation plan. Many financial experts recommend this “de-risking” strategy to their older clients, especially those who need to access their assets within the next five to seven years.
Although they are forgoing potentially more significant gains, seniors choosing a capital preservation focus will generally see greater stability and predictability in their portfolios. It’s a trade-off many are willing to make to ensure they lose as little of their nest eggs as possible.
What types of financial instruments help achieve capital preservation?
Choosing suitable types of assets to protect your principal and preserve your capital is a highly personal process involving adequate assessment of your risk tolerance and your overall money goals, among other factors.
That being the case, there are still many choices for those who want to follow this strategy, including:
- Certificates of Deposit (CDs)
- Municipal bonds
- Treasury bills (T-bills)
- Target-date funds (TDFs)
- Annuities- (Can create guaranteed, predictable income streams.)
Each of these assets has pros and cons that you must thoroughly understand to make the right decisions. Before considering purchasing any financial vehicle, it’s wise to meet with your safe money and income specialist. You will benefit from their insights, experience, and expertise in the spend-down phase of financial planning.
De-risking a portfolio, as you probably realize, comes with some potential drawbacks. The most significant of these is inflation, which erodes the purchasing power of your dollars and makes it more challenging to enjoy your ideal retirement. While it is not uncommon for equities to earn average annual returns of 7% or more, assets used in capital preservation plans generally have much lower interest rates, sometimes 2% or lower. By de-risking, you may not be able to keep pace with even a modest 2% rate of inflation, much less the 5% or more we are currently experiencing.
Inflation concerns are why some seniors employ capital preservation techniques strictly on a short-term basis and regularly evaluate and rebalance their portfolios.
Bottom line: Cash and capital become more vital as you grow older. Many retirees and those within five to seven years of retiring may want to de-risk their retirement accounts as much as is reasonable to preserve capital. Several options exist for safeguarding your portfolio, each with pros and cons that you must research and carefully consider before purchasing. Your trusted retirement income advisor will assist you in creating and implementing your ideal capital preservation plan.