When pilots prepare for takeoff, they need to have several items in place to make sure their flight is successful:
- Engine maintenance
- Updated database
- Good electronics
- Flight plan (and a plan B, just in case)
- Knowledge of temporary flight restrictions that could alter the flight plan
- Backup tools for redundancy
- At least one person who knows how to fly the plane
There’s more, of course, but you get the idea. A successful flight requires the right tools.
The same goes for your retirement. If you’re preparing for takeoff into the skies of retirement, you’ll want to make sure you have the following retirement planning tools:
1. A Financial Plan
Often, when we sit down with someone to help them make a plan, one of the first questions they ask us is, “What kind of returns can I expect?”
I know it’s rude to answer a question with a question, but my reply is always, “What returns does your plan require?”
Nine out of ten people aren’t sure how to respond to this question. They don’t know what returns their plan requires because they don’t have a plan in the first place.
If you invest without a plan, you’ll just chase returns. It’s like running a race with no finish line. How will you know when you’ve reached your goal? How will you know when to sprint and when to conserve energy? You need to have a plan and end in mind, especially when it comes to retirement, because it’s a marathon – not a 100-yard dash.
A financial plan has two purposes: first, it tells you where you’re going and helps you identify potential obstacles, such as long-term care, taking care of parent, inflation, etc. The second purpose is to build an investment strategy that meets the needs of your plan while minimizing risk.
You can’t get returns without risk. The two concepts are inseparable. But you can turn the level of risk on your portfolio up and down. We see a lot of people who crank their risk level far beyond where it needs to be just because they don’t know any different. Those people are putting their future at risk for no reason. Even if they don’t see devastating losses, at the very least, they’ll be more uncomfortable when markets fluctuate.
We do our financial planning in-house, and our approach is to determine what level of returns your plan requires and then adjust your risk level accordingly so you’re taking just enough risk to get the returns your plan requires. Once we find a risk level that’s right for you, that doesn’t mean we’re done.
Just like pilots check in at different spots along their route, your financial plan needs to be checked regularly once a quarter. We’ll meet on a quarterly basis and make sure you’re on the path you want, and if not, we’ll make modifications.
2. A Portfolio Catered to Your Needs
When people hear “retirement portfolio,” they often think of the stock market and nothing else. While any good portfolio includes a mixture of stocks and bonds, a well-rounded portfolio goes beyond that.
Building a portfolio that meets your needs is no easy task, but sticking to it proves to be even more difficult for many people.
I’ve talked to several people over the years who decide to withdraw 3 percent annually from their retirement portfolio. That’s a perfectly reasonable number. The problem comes when they decide they’re also going to take a large lump sum – whether it’s to put an addition on their house or pay for their grandkids to go to college – and they plan on continuing to take that 3 percent like everything’s normal.
Every one of your financial goals affects every other financial goal. If you want to set aside something to leave your kids, then you may need to make some lifestyle adjustments.
When we build a financial plan, we stress-test it under multiple scenarios – what would happen if you lost half your Social Security? How about if inflation rates doubled? But there’s one scenario we don’t bother stress-testing: the best-case scenario. We don’t build financial plans assuming that investments are going to hit on all cylinders at all times. It’s just not going to happen.
That’s why we recommend setting up buffers in your portfolio that are separate from your investments – long-term care coverage, for instance. That way your investments can keep working for you and you can find a way to make your goals work together.
3. A Risk-Appropriate, Diversified Portfolio
Imagine everyone has a ten-rung ladder to get them out of risky situations. Some people might take different risks within that ten-rung spectrum. If the markets drop and your risk level puts you seven rungs down, but your friend only drops two, you’re only going to come out three rungs ahead and your friend will come out eight rungs.
The depth of hole you’re comfortable with is like your “risk tolerance.” It’s a combination of your ability to stomach market volatility and focus on your strategy. It sounds simple, right? Not so much.
Our 24/7 news cycle means that at any given time, someone somewhere is talking about what the markets are doing. It’s easy to get caught up in the news of the day (or, as I like to call CNBC, “news of the nanosecond”) and make investment decisions you think are wise, but nothing could be further from the truth.
There is a video I love called “The Growth of a Dollar” that shows Time magazine headlines over a ninety-year period along with the market behavior at that time. While the market dips and dives sometimes, one dollar invested in 1927 is worth more than $5,000 in 2016.
In 1987, the market plummeted almost 25 percent in a single day. I was an advisor at the time and some panicked clients called me. My advice to everyone was the same: hold steady.
It paid off in the end. From January to December that year, the S&P 500 was up 5 percent, and a typical retired client’s diversified portfolio was up much more than that. Sure, if you looked at that one day, it seemed like all was lost. But when you looked at the big picture, you could see the long-term upward trend.
If you can handle more risk and you have the means to take it, by all means do. But investing your money doesn’t have to mean excessive risk. Find a risk level you’re comfortable with and stick to it.
Don’t get me wrong, you have to take risk to get returns. But regardless of your goals, there are ways it can be minimized.
Diversification Is Your Friend
One of the strongest tools for minimizing risk is diversification – adjusting your asset allocation so you have a little bit of everything. It often means including seemingly out of favor investments in your portfolio. Right now, to diversify means to include international stocks even though they’ve underperformed domestic several years in a row.
As has often been said, “The time to buy is when there’s blood in the streets.” Warren Buffett has turned buying when no one else wants to – when the price is low and the potential is high – into an art.
The best way I can summarize diversification is with an illustration: Imagine you have an orchard that’s made up of every type of fruit under the sun. Some fruits do well, some don’t, and some aren’t yet in season. Overall, your orchard does pretty well.
Suddenly one day, the demand for apples skyrockets. Wanting to make the most of the situation, you dig up all of the other fruits in your orchard and plant all apples.
Then apples stop being hot. Maybe too many people got sick eating bad apples, or maybe people just got tired of cider. For whatever reason, apples plummet and, as a result, you can’t pay people to take your crops.
Every fruit will do well at some point and every fruit will do poorly relative to others. Sometimes the markets are just the pits.
If you only have an apple orchard, your farm won’t be as well-diversified as if you planted lemons, cherries, grapes, and other fruits among your crops. By putting all your money in apples, you’re trusting your future to the fate of one fruit rather than the collective performance of every fruit.
4. An Investing Strategy You Can Trust
There’s no one right road. There’s no absolutely correct portfolio. There are hundreds of right roads. You want to find a good road that puts you in a good position for a high probability of success.
But how can you know which road you should take?
The largest divide between investing strategies is traditional active management versus evidence-based investing. We believe numbers have shown time and time again that active management can’t be successful consistently, so we choose evidence-based investing. To learn more about the difference between the two, check out this infographic.
Beyond that question, it’s important to remember that no strategy works all the time. That’s why we believe so strongly in diversification, and it’s also why we believe in partnering with a financial professional.
5. Someone Who Knows What They’re Doing
We’re not all pilots. I would never ride in a plane flown by someone who has never done it before. In the same way, I would not want to hand my financial future over to someone who has never helped someone build and implement a successful financial plan. Some people can fly on their own, but others want professional help to protect them from the potential mistakes that often accompany inexperience.
Working with a professional means your financial future is being planned by someone who has been there before – several times. At TFS, we have experience, and we’ve seen clients through some of the biggest financial challenges of the last thirty years.
Right about now, you’re probably thinking, “Of course Dale wants me to hire a financial advisor, and he wants that advisor to be him!”
Okay, you got me. We would love to talk to you about partnering with TFS. But even if we talk and you choose not to work with us, we hope you will still find a financial pilot who can help you get you where you’re going.
Bottom line: You can have all the right tools, but you need to know how to use them effectively. As you prepare for takeoff into the skies of retirement, make sure you’re using them well or that you are working with someone who can help you.
Investing involves risk including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values. Past performance is no guarantee of future results. Please note that individual situations can vary.