By Warren S. Hersch

With stocks in bear market territory and economic recovery still far from certain, counseling clients to stay invested in equities may not, at first glance, seem a wise course.

But advisors are doing just that.

“It’s counterintuitive to a lot of folks, but we do feel that equity exposure is essential for clients near or already in retirement,” says Paul Bennett, a certified financial planner and managing partner of C5 Wealth Management LLC, Great Falls, Va.

“Yes, we may recommend dialing down the equity component as clients near retirement, but the level of equity exposure will ultimately be based on the client’s risk tolerance and financial sources.”

Many of the firm’s retired clients have more than 75% of their investable assets in equities, says Bennett. By contrast, some younger clients who are still in their 40s and 50s have a much reduced equity exposure because of their greater aversion to market risk. Among them are entrepreneurs who are depending on their businesses to provide for retirement.

Though heavily invested in equities, older clients are not always betting on market gains. In July 2007, says Bennett, his firm hedged by taking a 10% to 12% position in a “bear fund” that shorted stocks. Result: Clients’ portfolios enjoyed a 24% rise. The firm later pulled out of the fund on the expectation of market rebound.

In all, says Bennett, clients can choose from among 8 model portfolios, which variously invest in stocks, mutual funds, Treasuries and exchange-traded funds; the last provides exposure to precious metals and other commodities. To mitigate the impact of market gyrations, the company also frequently recommends fixed annuities and variable annuities with guaranteed living benefit riders.

Bill Lehnertz, a chartered life underwriter and CEO of TLC Financial, Inc., Minneapolis, Minn., also sees the high equity position–stocks and mutual funds accounts for as much 70% of many retirees’ portfolios–as necessary to recover lost asset values stemming from the market downturn. So, in recent months, he moved clients to “more volatile” investments to buy equities at bargain prices, he says.

To be sure, not all of Lehnertz’ clients are prepared to chance further erosion of their portfolios. For these more risk-averse investors, Lehnertz often recommends a fixed or variable annuity sporting a guaranteed minimum income or guaranteed minimum withdrawal benefit.

“These products let them sleep at night and still be invested in the market,” says Lehnertz. “Many fixed and variable annuities are especially attractive now, as their costs are coming down.”

Bennett agrees. “We’re proponents of fixed and no-load variable annuities with living benefit guarantees, which both act as a portfolio volatility dampener. But we do shy away from annuities that have high expense ratios,” he says.

Advisors are availing clients of still other low-risk investment options. John Mazzara, a chartered financial consultant and principal of Financial Planning Associates, Edina, Minn., markets insured municipal bond funds and U.S.-backed mortgage securities issued by the Government National Mortgage Association or Ginnie Mae. These mortgage securities generally offer higher interest yields–4% or greater–than do certificates of deposit, Mazzara says.

There is, however, a price to be paid for investing conservatively. When stocks prices rebound, sources say, clients stand to lose out on the gains, given the difficulty of timing the market. Thus, advisors generally counsel risk-averse clients to limit conservative investments to that part of the portfolio needed to meet immediate or near-term cash needs.

“You don’t want clients jumping entirely out of stocks when the market slides and jumping back in when it bounces back,” says Keith Meyers, a certified financial planner and principal of Keith Meyers Inc., Cannon Falls, Minn. “How much they jump out will depend on how great their need is to sleep soundly at night.”

But many of his clients are staying the course, Meyers adds. Among them are retirees using a laddering strategy that progressively increases risk exposure as the portfolio shifts from immediate to mid- to long-term investments.

For immediate cash needs, Meyers frequently recommends a bank certificate of deposit, money market fund or single premium immediate annuity. The mid- and long-term buckets typically include, respectively, a fixed annuity carrying a 5- 7-year surrender schedule and a deferred variable annuity.

The portfolios of more than 90% of his clients, observes Meyers, are doing on average 10 points or better than the S&P 500 index, but are still in negative territory due to the precipitous drop in asset prices since the onset of the downturn. It’s especially important during bear markets to stay in regular contact with clients to keep them on track, he adds.

“When markets are down, we have to be proactive about managing the relationship,” says Meyers. “It’s tough to show someone a negative investment return of 30% and say, ‘it could have been worse.’ That’s easier to do when you stay in regular contact.”

Those clients who ultimately cannot depend on their investments to provide for a comfortable or even adequate retirement may have difficult choices to make. Among them: postponing retirement, selling off already depressed real estate assets to provide for immediate or long-term cash needs, and reducing withdrawals from retirement savings.

“We’re already seeing this,” says Mazzara. “People are drawing down less or not taking money at all. And some of my clients are selling a second home and other assets to generate cash–assets they thought they could keep.”