Previous columns have stressed the power of early action, when compounding offers the greatest leverage. This column and the prior one were written for clients in their 50s or 60s who did not act, or whose planning was swamped by misfortune such as the 2008 crash, and are now seeking to recover their futures.
Keeping a Lid on Risk
Excessive risk-taking is distressingly common among pre-retirees, especially when investors are lulled to complacency by a bull market. It is especially dangerous if you have not saved enough. It can escalate a problem into a personal crisis.
As I've argued before, it is prudent to reduce the volatility of your portfolio by trimming risky equities and substituting more stable, slower-growing assets in the years leading to retirement. But many who did not save enough instead increase their portfolio’s risk in the hope of earning a “big score.” Often, familiar investments breed misplaced confidence: If you have made good returns in real estate, or in a private business, why not double down to turbocharge your portfolio’s overall return?
The arguments about portfolio overconcentration mimic those about leverage: both magnify gains when your optimistic hopes are realized—and deliver crippling losses when they are not. Ask anyone with leveraged real estate holdings in 2008, when “house prices always rise”—until they didn’t.
The greatest investors have concentrated their investments intensively. Bill Gates became the world’s richest man through his ownership of one company, Microsoft. Warren Buffett often keeps 40% or 50% of Berkshire Hathaway’s investments, like its Buffett Partnership predecessors, in only three or four stocks. But these men had exceptional ability to identify great businesses, and the financial reserves and patience to ride out steep downdrafts. They also invested at the right time, when the asset was cheap. Unless you can be confident you have similar skills, overconcentration is likely to aggravate your financial challenges, not solve them.
The problem with a truly diversified portfolio—where no single asset is more than, say, 5% of your total—is even a few home runs will add only modestly to your overall score. If you are seriously moved to bet on speculative ventures, do it only with amounts you can lose without tears—say 1% or 2% of your assets. If you need every dollar to work in order to make up for lost time (saving), even this may be too aggressive.
Downscaling, Including Overseas
If your assets won’t provide enough income to meet your retirement aspirations, one option is to downsize your aspirations. Lower one or more of the major expenses you will face in retirement. The largest expenses are generally health care and housing.
To cut these costs several million Americans have already expatriated (relocated out of the U.S.) or are actively considering it. Once you are no longer tethered to a location due to employment, you are free to live anywhere. A rich network of advisors and promoters exists to help you educate yourself about overseas living opportunities. Many countries such as Panama and Costa Rica actively recruit Norteamericanos to retire there, with generous health care systems (often staffed with English-speaking providers), expedited visa and residency programs, and tax incentives. One national incentive program is called pensionado, leaving no doubt about its target market!
If you wish to remain in the U.S., you can still cut your expenses by moving to a region with a significantly lower cost of living, as thousands have done. For higher-income retirees, one of the eight states that has no income tax may be especially attractive since taxes may be one of your largest expenses.
You can also cut your retirement expenses by paying off your mortgage by retirement time, either by accelerating payments while working, refinancing into a shorter-term mortgage at a lower interest rate, or downsizing to a less expensive home that you buy with only home equity in your former home.
These are all momentous life changes, and we do not wish to minimize the changes they entail. But they are much less risky than the ill-advised ones mentioned above.
Don’t Blow the Final Laps
It is natural to compensate for postponed planning with frenetic actions, fourth quarter “Hail Mary” passes. But as other columns have noted, money saved late in working life has the least leverage because it will compound for the shortest time. Worse still, you may be tempted to undertake especially risky investments in the hope of a big score. If they fail you will only compound your problems.
Rather than betting on very low probability wins in risky investments, bet on a near sure thing by working and saving longer. If your income doesn’t meet your needs, you can transplant to someplace where your needs will be much diminished.
These conversations are where an adviser can add the greatest value, because they can have the distance and perspective that clients demonstrably lack. It will not be an easy conversation, but it will be one ot the most valuable services an adviser can render.
Philip J. Romero, a finance professor at the University of Oregon, and Riaan Nel are authors of “It’s the Income, Stupid! 7 Secrets for a Stress-free Retirement” (Post Hill Press, 2017).