I’m going to start by sharing a dirty little secret of the financial planning profession: Most financial planning rules are dumbed down to the point of being unusable. In fact, I would argue that they’re downright harmful, as they potentially deprive investors of desperately-needed growth in retirement.
Let’s start with perhaps the biggest offender of all: The rule that says your allocation to stocks should equal 100 minus your age. So, if you’re 70 years old, you should have 30% allocated to stocks and 70% allocated to cash and bonds.
Allowing for longer lifespans, I’ve seen variations on this theme that suggest using 120 minus your age as opposed to 100.
But it doesn’t matter. It’s still a terrible rule that completely ignores market valuations. The relative expensiveness or cheapness of stocks and bonds is not considered at all, which is ludicrous and flies in the face basic common sense.
The Problem With Retirement “Rulesâ€
If stocks were cheap and bond expensive, you could make a case for massively overweighting your allocation to stocks, whether you’re 18 years old or 80. And the flipside would be equally true; if bonds were cheap relative to stocks (as they were in the late 1990s), investors of all ages should overweight bonds and underweight stocks.
But that said, as incomplete as this rule is, there is a small but important nugget of truth to it. No matter you age, you should always have some portion of your portfolio allocated to growth investments. By relying exclusively on income investments, you run the risk of falling behind due to inflation. And if you have portfolio goals that exceed your own lifespan — such as leaving a nest egg for a younger spouse or children — investing for growth becomes all the more important.
This relates to another often misused rule: the 4% Rule. The idea here is that 4% is the highest “safe†withdrawal rate that will survive a 30-year retirement without depleting your portfolio. Under the rule, which became standard planning practice in the 1990s, you take a 4% withdrawal in the year of retirement and adjust the figure up by the rate of inflation.
