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From the Merrill Edge Minute e-newsletter.
Key Points:
- Retirement asset management is no longer as simple as more bonds, fewer stocks.
- Dividing your assets into two buckets — one for regular income and easily accessible short-term money, the other for long-term growth potential — may help you create a more comfortable and sustainable retirement.
In the current post-recession global economy, static financial strategies, at any age, carry significant risk. Even when you retire, your portfolio will have to be flexible enough to meet competing financial objectives: guaranteed income — without locking in low interest rates — and growth to outlast your longevity.
A comprehensive approach to retirement allocation should take into account your expenses and risk tolerance, with the goal of providing ample income so you can avoid selling investments when values are low. To begin developing an allocation strategy, consider dividing your total portfolio into short-term consumption and longer-term income replacement. The ideal portfolio should supplement your Social Security and any pension income throughout your retirement and provide consistent liquidity to meet expenses for the next several years.
Easy Access First
Your short-term portfolio should provide peace of mind through income and liquidity. High-quality bonds, Treasury inflation-protected securities (TIPS), and FDIC-insured certificates of deposit (CDs) and savings accounts are intended to offer stable, planned income with relatively low risk. Holding dividend-producing stocks can also augment your regular income. These assets are intended to be less volatile, so it may be less likely that you will have to tap your longer-term investments to fill a sudden income gap.
You may also want to create a bond ladder, says Bill Hunter, director, IRA Product Management, Merrill Lynch. With this strategy, you "ladder" your bond portfolio by buying individual bonds with staggered maturity dates. The bonds come due regularly, and you can then reinvest the principal at prevailing interest rates after taking any needed cash. That way you're less susceptible to the changing interest rate environment — you'll never have to reinvest all your bonds when rates are at their lowest.
To generate even more consistent cash flow, consider investing in an immediate (or income) annuity that offers a payment guaranteed by an insurance company for the rest of your life.1
Long-Term Growth
Your long-term growth portfolio should be selected with an eye toward keeping pace with inflation and periodically replenishing your short-term holdings — essentially providing another source of income. In the short term, you want to take little risk, but in the long term, being too conservative can sometimes result in giving up higher potential returns and cause you to deplete your assets too quickly to last your lifetime.
Having this portfolio invested more aggressively may provide flexibility in deciding when to sell assets. If you have growth-seeking investments in your long-term bucket, they may generate a high enough return to allow you to replenish your short-term bucket without having to sell investments when they're down. If you invest too conservatively, you might come up short for cash and be forced to sell at lows. Always keep your own time horizon, risk tolerance and long-term goals in mind.
Two-Pronged Strategy
One product that can offer a level of security with growth potential is a variable annuity. Variable annuities are long-term investments designed for retirement purposes. They offer optional benefits (available for an additional cost) that can provide a guaranteed lifetime income stream — often 5% of principal — but may be higher or lower depending on the age when you start receiving income.1 Your guaranteed lifetime income stream may increase if your underlying investments, also called "subaccounts," perform well.
In the context of the two-bucket approach discussed above, a variable annuity would be an allocation within the long-term growth portfolio, and the guaranteed income stream a variable annuity generates would help consistently replenish the assets in the short-term consumption bucket.
The Choice Is Yours
The most important point to remember is that no single retirement strategy is right for everyone. "It depends on your risk tolerance, your goals and your investment philosophy," says Hunter, adding that your plan must also be able to change along with life circumstances. "Make sure it's as flexible and dynamic as you need it to be."
Next Steps:
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- Check out the Retirement Evaluator to help you see where you stand in your current retirement preparations.
- Learn more about annuities and how they can help you prepare for retirement.