As we approach the end of the year, it’s good time to review your accounts and determine if you have met your retirement goals for the year and review if your account is diversified. In TIAA’s article below, TIAA reviews what a well diversified account includes.
Diversification in agriculture
Throughout the history of agriculture, farmers have learned a few important lessons:
- Growing the same crop year in and year out often depleted the soil and reduced their yields; and
- Periodically rotating different types of crops would result in higher yields and less soil
Thus, the concepts of crop rotation and diversification were set in place as principles of good, responsible farming. Careful adherence to these principles would result in a greater harvest. Today you can take advantage of these agrarian fundamentals and apply them to your long-term investment strategy by appreciating the importance of diversification.
When it comes to investing, diversification means spreading your money across the spectrum of asset classes to provide more potential opportunity for growth, while protecting against the risks that come with putting all your money in one place.
When it comes to investing, diversification means spreading your money across the spectrum of asset classes to provide more potential opportunity for growth, while protecting against the risks that come with putting all your money in one place.
At a very high-level, a well-diversified portfolio could be composed of a mix of:
- Equities – includes individual company stock, mutual funds, and Exchange-Traded Funds or (ETFs). Equities provide the opportunity for higher growth, but are more volatile than other types of assets.
- Bonds – includes municipal, corporate and governmental bonds, which provide lower but more stable returns.
- Cash – such as a Money Market Fund, which typically provide a return similar to the prime lending rate.
- Guaranteed Assets – which often come in the form of Fixed Annuities and provide guaranteed growth during your saving years and the option for guaranteed income in retirement.
- Real Estate – which include options like real estate-based annuities or REITs (Real Estate Investment Trusts). Real Estate is typically less affected by the stock market, which helps lower portfolio risk and can enhance its diversification value.
Many retirement plans include Target Date Funds (TDFs), which themselves are diversified across many asset classes, including equities, bonds, real estate, and cash. These funds adjust automatically over time as you get closer to retirement. However, TDFs don’t include guaranteed assets and the option for guaranteed income in retirement. In addition, TDFs aren’t personalized, using just your age or retirement date to determine your investment mix.
You may have heard of the “60/40 Rule” (60% equities and 40% bonds). This continues to be an industry standard for building and maintaining a diversified portfolio. However, this approach doesn’t always provide the diversification you might expect, as stocks and bonds can decline at the same time. For example, in 2022, this approach yielded a loss of 15%. Including each of the five asset classes is a much better way to diversify your portfolio.
For the full TIAA article, click here.