Taking Too Much Risk May Sink Your Retirement

85016_Retirement-Further-by-Frederick-Deligne-Le-Pelerin-France-515x349.jpgThanks to the Fed's zero interest rate policy (ZIRP), baby boomers are facing a much tougher road to retirement than those in the past. While it may seem like an eternity, it was only 10 years ago when you could park your money in a savings account and earn interest of 5%. Retirees who worked hard and saved their money could safely invest their assets in retirement and not have to worry about suffering any losses.

Today is an especially challenging environment for investors who are looking to generate a safe income stream. No Treasury bond will pay a safe 5% return as a 30-year Treasury Bond yields just 2.69%. This is causing a massive gap between what boomers say they want in retirement and what they're doing to make it happen.

A new survey from Blackrock shows that even affluent retirees - those earning more than $250,000 a year - hadn't set aside enough to generate the income they said they needed to meet their retirement expectations.

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Chasing Yield

Unfortunately because of ZIRP, retirees have been forced to chase yield to earn a return that used to be done using risk free instruments. This is a big problem because many unsophisticated investors don't understand the risks that they are taking when choosing higher yielding instruments. Some people just bought higher yielding stocks without regard to the companies' ability to pay dividends in the future and the quality of the overall business. This made Master Limited Partnerships (MLP) a hot choice for retail investors because many paid 7%+ dividends and the stocks were appreciating as well. But many of the MLPs were highly levered companies that were in the oil and gas business. When oil prices crumbled so did the stock prices and many cut dividends significantly or now don't pay a single dime. That 7% yield may have looked attractive two years ago but many retail investors didn't understand the risk and suffered in some cases almost 100% losses on their principal.

Recently I received a question from a reader asking which investment strategy is better: a bond ladder or dividend stocks. These two choices are like comparing apples to oranges. The only similarity is perhaps a similar yield on both strategies for the time being; but that is where the similarities end. A Treasury bond ladder carries zero risk if you hold the bonds to maturity. You will safely earn the coupon payments from each individual bond and you will collect your principal when the bonds mature. On the other hand, a dividend strategy carries significant downside risk if there is another severe bear market like 2008. For example, AT&T which was considered a "safe" dividend stock fell over 40% in 2008.

In the end, you better know what your risks are with any investment that you choose. For those nearing or in retirement, it is even more important because if you suffer a loss, you don't have as much time to recoup the losses.

What's Your Risk Tolerance?

According to Riskalyze, 4 out of 5 people have more risk in their portfolios than they realize. This is because they don't have the proper tools to measure their risk tolerance or risk within their investment portfolios. Thanks to cutting edge technology based on Nobel prize winning theory, you can now pinpoint your acceptable level of risk with unparalleled accuracy.

Interestingly, a team of academics reviewed this methodology and data and what they found was fascinating. 52% of investors aged 20-29 don't fit their stereotype of being aggressive. This is the client who is emotional and upset when markets are dropping because they have too much risk. Meanwhile, 53% of investors aged 70-79 don't fit their stereotype of being conservative. This is the client who is frustrated that they aren't getting the returns they want when markets are going up.

This is why it is imperative to know your Risk Number and have your investment portfolio strategy positioned accordingly. Because each of us is individually unique, your portfolio Risk Number will be unique to you. If you ignore your Risk Number or invest in the opposite fashion, then you are doing so at your own peril.

Discover Your Risk Number 

Lucky for you, the process of finding out your Risk Number is quick and easy. Click the button below and take a 5-minute quiz that covers topics such as portfolio size, top financial goals, and what you’re willing to risk for potential gains. We’ll help you define your exact Risk Number for you to see immediately. Then, you will have a baseline number to work with going forward.

 

When it comes to your investments, what does risk mean to you? Have you ever defined your risk? If you used our Risk Number tool, did you find it helpful?

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About the Author: Chris Wang

Chris Wang

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