Monica Garwood / The New York Times
Older investors who take on more risk to generate big gains can jeopardize their investments and, by extension, their entire life in retirement. “I have a saying: ‘A diversified portfolio is incredibly boring, but I’d rather be bored than broke,’ ” says Joseph Sweis, a financial adviser.
Sunday, April 7, 2019 | 2 a.m.
Bruce, a former medical professional, stuck the landing on his retirement. He saved well and invested wisely during his career and so was able to quit working in 2011 at age 62. He and his wife figure they have enough money to last the rest of their lives.
Their goal: earning a 5 to 6 percent annual return on their balanced portfolio of stock and bond funds.
And yet ... Bruce hears about things. A friend casually mentioned the 12 percent return he earns from a venture-capital investment. Another got him considering sports-betting stocks. He never thought much about “hot stock tips” in the past, but Bruce, who requested his last name not be used to protect his privacy, has more time to ponder that sort of thing these days. He reads articles online about breakthrough technologies that pique his interest.
“Shouldn’t we be investing in marijuana stocks?” he’ll ask his financial adviser, Jeff Hybiak, who is based in New Kent, Virginia. “What about blockchain currencies like bitcoin?”
This phenomenon is familiar to investment advisers working with retirees or soon-to-be retirees. “A lot of times we’ll see this among higher-net-worth clients,” said Mark Fonville, president of Covenant Wealth Advisors in Virginia. “In a sense they’ve gotten to where they are by taking risks. They may have owned a business or simply made an investment that panned out. They have that bias — that overconfidence bias. It’s a big struggle to overcome it.”
Yet older investors obsessed with outsize returns may be putting themselves in real danger. Taking on more risk to generate big gains can jeopardize their investments and, by extension, their entire life in retirement.
This is especially true for retirees who may be well off but are not among the superrich. “With a bigger investable pool of funds, maybe you can take on some more risk,” said Marianela Collado, a financial planner in Plantation, Florida. “I worry more about the downside on a $2 million portfolio than on a $15 million portfolio.”
When he meets a client who wants to jump into the latest hot tech stock, Joseph Sweis, a Walnut Creek, California, financial adviser, typically starts by asking a series of investment-related questions. “I say, ‘Why do you want to buy that stock?’” he said. “‘What’s your price target on it? What’s your targeted rate of return on the stock?’ If they give me an answer, I say, ‘How did you arrive at that number?’”
The point of the questioning, he said, is to get them to see what they don’t know. More often than not, “the real rationale for their investment ideas is hype and greed,” he said. “I have a saying: ‘A diversified portfolio is incredibly boring, but I’d rather be bored than broke.’”
Some researchers call the years immediately before and after retirement “the fragile decade,” because investment returns during this period take on outsize importance. This is partly because of so-called sequence risk. That’s the chance that you will be withdrawing money from your investments at exactly the wrong time, when values are low. Those assets will never have a chance to rebound as you age.
Financial planner Ann Minnium encourages more conservative investing during the fragile decade and finds that clients often push back, wanting bigger returns. “I let them know that five to 10 years into retirement, they can increase their exposure to equities if the plan is on track and they are still interested in taking additional risk,” said Minnium, who is based in Scotch Plains, New Jersey. “Sometimes knowing that they may only need to play it safe temporarily is enough to get them to implement the more conservative portfolio, which will ultimately improve their retirement plan success.”
Your real appetite for risk: What is it?
The truth is, many people think they are more comfortable taking risk than they really are. Then the market swoons, and they panic. Planners often use online tools such as FinaMetrica, Riskalyze and Tolerisk to help gauge the amount of risk their clients are actually comfortable taking.
Clients answer several questions about money; for example, “If you had to choose between more job security with a small pay increase and less job security with a big pay increase, which would you pick?” In the end they get a score that reflects their risk tolerance and, in some cases, their capacity for risk. A bigger portfolio or lower expenses, or both, will increase your risk capacity.
Ben Rickey, an adviser in Yakima, Washington, is a fan of Riskalyze. “It’s very relatable. They have a graphic that looks like a speed-limit sign,” he said. “So the Standard & Poor’s 500 stock index has a speed limit right now of around 74,” he might say to a client. “What’s your speed limit?”
Once he knows a client’s risk tolerance score, Rickey creates a model investment portfolio based on it, along with some more aggressive portfolios. Then he compares them, using software that calculates the odds of any portfolio lasting the rest of a person’s life. “A lot of times they’ll find that by taking more risk they actually increase their chance of running out of money before they die, because it increases the variability so much,” he said.
Fonville likes to show his clients a chart with the returns for two portfolios: one with 100 percent large stocks, and the other a diversified mix of stocks and bonds. “Which one would you prefer?” he’ll ask. They will always say the one with 100 percent stocks because it produces larger returns.
Then he shows them a second chart, this time including a 4.5% annual income distribution from both portfolios. Again, he’ll ask, “Which portfolio would you prefer?” “They always choose the portfolio that doesn’t run out of money,” Fonville said. “Ironically, the portfolio that doesn’t run out of money is the lower-returning portfolio.”
Even when presented with evidence like that, some people cannot help but gravitate toward riskier investments. What is a financial adviser (or loved one) to do? One solution: Allow them to set aside a small portion of their investments — 5 or 10 percent — for taking fliers.
“We call it a ‘sandbox’ account,” said Lorenzo Sanchez, a financial adviser in San Diego. “We put no more than 5 percent of their portfolio in a separate account where they can buy any investment they want. The rest of their portfolio stays invested in a diversified allocation determined by both spouses’ risk tolerance, age, risk capacity and need for risk.”
Hybiak has adopted a similar approach for when clients run to him with exotic investment ideas that he considers unsuitable. He lets them open a “play money” account representing a small portion of their portfolios. His client Bruce, the former medical professional, has one. Bruce began investing in a marijuana exchange-traded fund last year and has seen some big gains. At one point, his initial stake in the Alternative Harvest ETF was up 72%, although it since come back to earth.
Before he made that investment, Hybiak ran the numbers to be sure his client could withstand a total loss of his “play money” and not derail his retirement plans. Even without those funds, Hybiak’s software shows his client has a 90% chance of living to age 100 without running out of money.
“If he makes money, great,” Hybiak said. “If he loses it all, it won’t destroy his financial plan. That’s the key.”
