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.