Bajtelsmit Column: Time for an Asset Allocation Checkup

Note to Editors: Vickie Bajtelsmit is a finance professor in the Colorado State University College of Business and the author of three personal finance books.

My overall retirement investment strategy has been to select an asset allocation consistent with my risk tolerance and my age, and invest in an appropriate mix of mutual funds.  Then, in the words of the Beatles, I just "Let It Be."  

Perhaps you would have thought that, because I’m a finance expert, I would have a large portfolio of individual stocks that I regularly buy and sell at a profit, allowing me to retire a very wealthy woman at a young age. Maybe you imagined that I could employ special analytical skills to ferreting out gems that could survive the market downturn untarnished.  Sorry, but no.  

I truly don’t think that it’s possible to be a consistently good stock picker, even if I had the time, which I don’t.  Yes, occasionally people get very lucky.  But for every winner, there are losers.  So, on average, I’m still better off with a diversified portfolio of mutual funds.

Let’s suppose you’ve heard this advice before and you’ve been good and left your investments alone for the past year. You probably cheated just a little bit, like I did, occasionally taking a peak to see how bad a hit you had taken.  And it’s been bad!

Even with a "Let It Be" strategy, it’s a good idea to give your portfolio allocation a little check-up now and then. When market prices change dramatically, either up or down, it’s easy for your asset allocation to drift away from your original intent. Like your doctor and dentist, I  recommend an annual checkup, perhaps with the new year, or your birthday, or some other milestone that makes sense.

As a simple example to illustrate allocation drift, suppose that you began with $200,000 in your 401(k) before the market downturn at age 50, and your asset allocation strategy was to invest 120 percent minus your age, in this case 70 percent or $140,000, in a diversified stock mutual fund and $60,000 in a money market mutual fund.  In real life, you probably have several more asset categories, such as real estate, bonds, international stocks, annuities, etc. You should include all of your investments when evaluating your portfolio allocation, even if they are from different employers, IRAs, or non-retirement savings accounts.

In this example, suppose your stock fund declined by 25 percent over the past year, and the money market fund increased by 3 percent. Your new account value would be $105,000 in stocks and $61,800 in the money market, for a total of $166,800.  Notice that your overall portfolio decline was only 17 percent because you were diversified with the money market account.  

Notice that, after the market decline, your portfolio is no longer 70 percent in equities.  You now have $105,000/$166,800 in stocks, only 63 percent.  Your knee jerk reaction might be: "Good, because I don’t want that much risk anymore." However, if you originally had determined that 70 percent –actually 69 percent since you’re now one year older-was the desired allocation, then you should stick to the plan.  

Most people, at least those of us who "Let It Be", have seen stock allocations go down over the last year. We probably aren’t yet at the bottom, but stock prices are lower than they’ve been in a decade, so it’s not a bad time to buy.  With most 401(k) providers, it’s easy to go on line and change the allocation across funds or the allocation of new contributions.  

And when the market rebounds, be sure to do another checkup to make sure you don’t get out of whack in the other direction.