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Editor's note: Today, we're concluding our weeklong series of investment lessons with value investor Dan Ferris. (If you missed the previous essays, read them here, here, here, and here.) In the final installment, which we originally published last August, he explains how to avoid a hidden danger that could ruin your retirement...
Don't Let the 'Glidepath' Illusion Ruin Your RetirementBy
Friday, August 12, 2016
The traditional notion of retirement says you should take bigger risks in the stock market when you're young.
You have more time to make up for losses than when you're older. As you age, you should take fewer and fewer risks, so you won't lose your retirement money... so the conventional wisdom goes.
This well-worn strategy is called "Glidepath investing." And it could ruin your retirement.
Let me explain...
The emotional appeal of Glidepath investing is obvious. Young people feel like they're going to live forever, so it feels better to them to take more risks. Buying riskier stocks feels right.
Older people feel they have more to lose and might not be able to support themselves one day, so they tend to be more risk-averse. For them, buying fewer stocks and more bonds feels safer.
There's an army of financial planners and other "helpers" out there selling products designed to get you to retirement with a big, safe nest egg, based on this feel-good notion.
However, research suggests that what feels good isn't necessarily what you should do...
Investor and researcher Rob Arnott of Research Affiliates published a report in 2012 called "The Glidepath Illusion." Arnott's research suggests Glidepath investing will make you less money by leading you to put less money in higher-return investments (stocks).
Arnott studied 141 years of stock and bond returns from 1871 to 2011. From these data, he hypothesized a range of possible outcomes. In general, Arnott found evidence that the range of outcomes from doing the opposite of Glidepath investing was superior to the range of Glidepath-based outcomes.
It's well-documented that stocks outperform bonds over the long term. Glidepath investors wind up putting a bigger percentage of their assets in stocks when they're younger and have less to invest. They put a higher percentage into bonds when they're older and have more to invest.
That's the basic error. Investors put fewer dollars into higher-return investments, then interrupt the compounding process to put more dollars into lower-return investments. So they make lower returns than if they had done the opposite of Glidepath investing.
Glidepath investing is a good recipe for feeling good, but a poor one for making as much money as possible in stocks and bonds. Arnott's conclusion is worth quoting and keeping close at hand as a reminder...
Save aggressively. Spend cautiously. Let your investments compound as long as possible before drawing them down. That's sound advice. Sadly, it makes perfect sense that the financial-services industry is once again doing exactly the wrong thing for clients. Don't trust financial planners and brokers. They're commissioned salespeople. They're incentivized to sell investments, NOT to make you money in stocks and bonds.
For as long as my health holds out, I'll stay productive and hopefully get well-compensated for my efforts, saving aggressively and spending cautiously. I recommend you at least give the traditional notion of retirement a second thought and consider an alternative that'll leave you better off emotionally and financially.
Good investing,
Dan Ferris
Further Reading:
Compounding your investments is the single best way to make a fortune in the stock market. Read more about this phenomenon right here: Retire Early With This Safe Stock System.
You may be surprised to learn what Dan says is the safest, most certain way to reduce risk in your portfolio today. Read on to learn more: Bullish or Bearish, Here's What You Should Be Doing Today.
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