Today we’re going to talk about the “investing wisely” portion of the book. Asset allocation is a concept that I discuss frequently with both personal clients and employees of retirement plans. Why is it important?
Typically towards the end of bull markets, my clients begin to question whether or not they should be diversified or have an asset allocation. I do not know when this bull market will end, but it always does and typically when we least expect it.
So, what is asset allocation? Asset allocation is diversifying your money so that you don’t have all your portfolio in one type of investment. When the stock market goes up, some of your portfolio doesn’t go up as much. When the stock market goes down(particularly in bear markets), your money won’t go down as much either. However, having about 60% of your money in the stock market puts you in about the same place value-wise as having all your money in the stock market over time.
We’ve been hearing a common theme lately, which we call FOMO, or the fear of missing out. This is really just envy and greed at work, created by hindsight. People look back and regret not having invested all of their money in stocks. But be honest—were you really willing to put all your money in the stock market during or soon after the last 30%+ decline?
The fear of missing out is driving people today to question whether they should diversify and have an asset allocation.
Over the past 20 years, the best way that I’ve ever explained asset allocation was in the form of an analogy. Let’s say that you have a wedding out in California in 10 days, and right now, you’re in dreary old Ohio, where it’s snowing. You have 10 days to get there, and you have two choices: you can either drive a Ferrari or a Ford Taurus (flying isn’t an option in this analogy). Most people would choose the Ferrari; it’s fun, and most people have never driven one before.
However, there are two stipulations: in the Ferrari, you have to go as fast as the vehicle possibly can. In the Ford Taurus, you’re required to go anywhere from five to 10 miles over the speed limit, and you also have to set your cruise control.
If you take the Ferrari, barring any mishaps, you’ll get there in five to six days, and you’ll have had a lot of fun getting there. If you took the Taurus, you’ll get there in eight to nine days, though the drive might have been a little boring.
But a lot could go wrong driving the Ferrari as fast as you can—you can get a flat tire, a speeding ticket, or get into an accident that hurts both you and the car - all of which can delay the trip quite a bit. All of the same things could potentially happen in the Ford Taurus, but it’s far more likely to happen in the Ferrari.
Think about the trip in terms of your retirement, whether it’s 10, 20, or 30 years away. Do you want to be in the Ferrari and try to get there either early but having a higher probability of some bumps in the road that could potentially derail your success? Or would you rather take the Taurus (have an asset allocation) and have a much higher probability of getting there and making sure that you can retire with a paycheck for life?
If you have any questions about asset allocation, please feel free to give us a call or send us an email at firstname.lastname@example.org. I’d love to give you my proven strategies to help you save more now and invest wisely so that you can retire on time with a paycheck for life.