Needs change over time, and the investment mix that worked in your 20s might not be ideal as you get older. But one thing is clear from 401(k) plan data: Investors of all ages are increasing bets on the stock market compared to the way Americans invested for retirement in previous decades.
Investing experts say younger investors should be more aggressive, while older investors should be more conservative — to a degree — and it's a message that has been effectively delivered. A big reason why: The ubiquity of target-date funds — designed around expected retirement age — in 401(k) plans, and in which weighting to stock and bonds are set by the fund company.
Vanguard's most recent How America Saves report, which uses figures from 3.9 million defined contribution plan participants, showed investors younger than 25 had an average of 88 percent of their defined contribution assets allocated to equity. Equity exposure dropped to 75 percent for those age 45 to 49, and 50 percent for 65- to 69-year-olds. Vanguard target-date funds have more than $500 billion in assets.
"Those who have the capacity and willingness to take investment risk should weight more heavily to equity. Those who don't should favor fixed income a bit more," said Elisabeth Kashner, director of ETF Research at FactSet. She noted that capacity to take risk can be determined by age (more time to make up for losses), overall wealth (higher net worth can make it easier to weather a loss) and income level (higher ability to increase savings rate to compensate for a loss).
"Willingness is an emotional condition — it's the investor's assessment of her own ability to tolerate a loss."
"Everyone, no matter what age, should have a diversified portfolio that includes large-cap U.S. equity, fixed income and international equity," said Todd Rosenbluth, senior director of ETF and mutual fund research at CFRA.
Mitch Goldberg, president of investment advisory firm ClientFirst Strategy, agreed. "It's really a matter of the appropriate proportion of the basic asset classes that each group would invest in. Whether you're 25 or 75, you'd still have exposure to stocks and bonds. It's just that the younger age would have a greater allocation in stocks and the 75-year-old would be allocated more in bonds."
In a recent podcast with the Wall Street Journal, Vanguard founder Jack Bogle recommended a 50-50 stock/bond split for retirees, but Bogle went further in a May appearance at the Morningstar Investment Conference, discussing a letter he received from a nervous young man about proper asset allocation.
"The young man was talking about all the risks out there — global disease, pandemics, religious war, nuclear war, global warming ... He said, 'I don't know what will happen. What should I do?' 'Look,' I said, 'you know as much about risks coming to fruition as I do, but you still should think about your asset allocation and you don't want to abandon stocks; you just want to get something you can live with comfortably,'" Bogle said. "I'm about 50 percent stocks and 50 percent bonds and I spend half my time worrying about why I have so much in stocks and the other half worrying about why I have so little in stocks."
"A 50-50 stock/bond allocation is fine, probably if you're younger a little more aggressive," Bogle said.
Bogle noted that value investing icon Ben Graham started with 50-50, but that was during an era when bonds yielded 7 percent and stocks only 5 percent. Both yield a lot less now — stocks 2 percent and bonds 2 to 3 percent. "Times are different now. ... The answer is not simple. I think it's better just setting your allocation somewhere between 70-30 and 30-70, maybe averaging 50 and just hanging on. As I've said more than one, stay the course."
Investors in their 20s and 30s could have a greater percentage of higher risk/higher return holdings such as emerging market equity, high-yield bonds and small- and mid-cap equity, Rosenbluth said. Investors in their 50s and 60s might focus more on larger-cap equity, dividend stocks and investment-grade fixed income. Investors in their 40s should strike a balance somewhere in the middle.
"The younger you are, the more aggressive you can be because you have time on your side to make up for losses. A 35-year-old and a 45-year-old are likely to invest similarly. It's once you're within 10 years of your goal that you should dial down your aggressiveness," said Douglas Boneparth, president of Bone Fide Wealth.
But don't tone it down too much. "People are living longer during an age of rising health-care and housing costs," Goldberg said, and they can benefit from the returns that are typically earned with equity.
Kashner noted that any investors who want to keep things simple and affordable can build a diversified portfolio using Vanguard's Total World Stock ETF () and then pairing it with either of two BlackRock offerings — the iShares Core U.S. Aggregate Bond fund (), if they want to stick to investment-grade bonds, or the iShares Core Total USD Bond Market (), if they'd also like to include high-yield exposure.
"VT provides a low-cost way to get well-diversified exposure to global stocks from developed as well as emerging market countries," said Neena Mishra, director of ETF research at Zacks Investment Research. "This ETF has high growth potential (but also) high risk due to its sizable exposure to international stocks and small cap."
There is also the iShares Core S&P Total U.S. Stock Market ETF (ITOT), which Mishra said provides exposure to the entire U.S. stock universe for 0.03 percent.
Rosenbluth said for greater domestic equities risk than an S&P 500 portfolio, BlackRock's iShares S&P Small-Cap 600 ETF (IJR) is a good, inexpensive option — it charges 0.07 percent annually. For a riskier bond allocation, BlackRock's decade-old iBoxx $ High Yield Corporate Bond ETF (HYG) makes sense for younger investors, with the ability to take more credit risk and looking for higher potential from bonds. With $17.8 billion under management, it's a behemoth in the domestic high-yield space.
When investors reach their 40s, dividend funds deserve a hard look, such as Vanguard's $24 billion Dividend Appreciation Index ().
"The fund holds high-quality stocks that have a record of increasing dividends over the past decade," Mishra said. "These are companies with strong competitive advantages, solid balance sheets and huge cash flows. Such companies not only outperform on risk-adjusted basis over the longer term but also provide stability to the portfolio during market downturns."
Rosenbluth advises considering the PowerShares S&P 500 Low Volatility (SPLV) ETF from Invesco for those seeking stability and low risk. He also is a fan of Vanguard's High Dividend Yield ETF (VYM) for investors seeking dividend stocks in a low-cost wrapper.
Investors in their 50s may want to look up Schwab's U.S. Large-Cap Value ETF (SCHV). "Studies have shown that value stocks have delivered higher returns with lower volatility compared with growth stocks over the long term in almost all the markets studied," Mishra said. "Value stocks and funds should be a part of any 'core' portfolio. Due to their lower volatility, they are excellent holdings in a conservative portfolio. SCHV has an expense ratio of just 4 basis points, while the dividend yield at 2.5 percent is quite attractive."
Finally, those at or near retirement could benefit from holding Vanguard's Intermediate-Term Corporate Bond index ().
"VCIT is an excellent option for fixed-income investing," Mishra said, citing the ETF's good yield at a low cost — 0.07 percent annually. "Its intermediate-term focus reduces the interest-rate sensitivity," Mishra said.