The Common Mistake that Costs Investors Massive Money


An apple a day keeps the doctor away. Wait 30 minutes to swim after eating. Subtract your age from 100 to find your proper stock allocation.

What do they all have in common? They're well-intentioned bits of received wisdom that many people believe to be true -- despite evidence to the contrary.

Now, eating apples and delaying your evening swim won't hurt you, even if they don't do much good. Using the widely accepted "100 Rule," however, is another story entirely.

Depending on your situation, adhering to this particular bit of investing advice can cost you serious money.

Should this rule of thumb be broken?

 The 100 Rule has this much going for it -- it's an easy way for the average investor to figure his allocation. Yet, in many cases, it's far too conservative. Younger investors, especially, would do well to ignore it.

If you're 20 to 30 years old, the 100 Rule would suggest you own between 70 and 80-percent stocks. Yet it could easily be argued these investors should not own bonds at all. With four or five decades to invest, moving a significant portion of your portfolio out of stocks is madness. You're likely going to miss out on enormous growth from which you would otherwise profit.

Additionally, you have plenty of time to recover from setbacks. If you look at historical, multi-decade market returns, you'll see that strong growth is all but assured.

Of course, time waits for no investor. As we age, an allocation shift is necessary. 

Why things have changed

There are several reasons why the old allocation guidelines are outmoded. First, Americans are living longer. Just in the last two decades alone, we're living three years longer, on average. That trend is expected to continue.

And we're not alone. China, today, has 19 million people older than 80. That number is expected to rise by one million, per year, for the forseeable future. In the U.S., the number of people older than 100 has reached more than 50,000 -- an all time record. Globally, the number of people older than 100 is primed to explode in the next three decades, going from 400,000 to 3.5 million.

Changing demographics have made old presumptions about investing obsolete. Today's investor has a timeline nearly a decade longer than his 1950s counterpart.

Yet that's not the only variable to consider. U.S. Treasury bonds no longer pay anywhere near what they once did. Today's ten year T bill returns a little more than two percent annually. In the 1980s, that return could exceed double digits. 

Action Plan: Calibrating your allocation

At one time, the 100 Rule was a useful calculation. Yet any investor following its prescription today is putting a brake on his portfolio's potential. Here are some things to consider:

  • Are you in your mid-thirties or younger? Then ignore bonds entirely. Invest everything in equities.
  • If you're worried about exposure, choose safe, low-cost index funds. Keep your portfolio well diversified.
  • As you age, gradually tilt toward bonds. One-percent out of equities and into bonds, per year, is a good tactic.
  • Shifting to a more aggressive posture from your 20s to your 50s can have a massive impact on your portfolio's overall performance.
  • If you're concerned about being too aggressive, consider safe investments or assets outside of the financial system. Real estate, gold, cash.
  • Consider Warren Buffet's estate plan. After he dies, Buffett's trustee will put 90-percent of his estate in an S&P 500 Index Fund and ten-percent in short-term government bonds. The idea is simple: If the market declines, you can dip into the short-term government bonds for money, rather than selling stocks at a loss.  

There is no universal approach to asset allocation or retirement. It's a highly individual decision. Yet we encourage anyone under 35 to avoid bonds and invest everything in equities. From there, tilt toward bonds incrementally. Don't sacrifice growth for a false sense of security.

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