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Capital Preservation or Growth: Which Strategy is Best as You Near Retirement?

There's a widely held view that, as you get closer to retirement, you should be shifting into capital preservation mode. This means shifting to less risky investments where you're less likely to see a sharp decline in your portfolio's value—but you're also less likely to reap significant rewards.

In practice, this approach generally means reducing the percentage of stocks in your portfolio and adding more Treasuries and other low-risk bonds. Bonds are seen as less risky than stocks because they offer fixed interest payments—and the borrower promises to repay your upfront investment once the bond matures.

Investors are already happy to hold a large chunk of their portfolio in bonds. In fact, the average IRA has just 46% in equities.1 But are you doing yourself a disservice by moving so cautiously too soon? There's a compelling argument for staying at least partially invested in growth assets even once you enter retirement.

Here are three reasons why staying partially invested in growth assets makes sense, even as you age into retirement.

 

Inflation erodes the value of your money

Inflation is the rate at which the cost of the everyday things we buy increases. Inflation in the U.S. is currently at a 40-year high2 running at 7.9% a year in February 2022. With the current geopolitical situation pushing up the cost of fuel, inflation is likely to climb even higher this year.3

If the rate of growth on your investment portfolio isn't keeping pace with inflation, then the real value of your money—what it can actually buy with it—will erode over time. With your spending power in retirement at risk, it's vital to get the right balance in your portfolio.

Consider this example: The S&P 500 Index, a stock market index tracking the performance of the 500 largest listed companies in the U.S., has delivered an annualized return of 14.6%4 over the last 10 years. By contrast, the S&P 500 Bond Index, made up solely of corporate bonds, delivered only 3.9% over the same period.5 That's a good reason to hold more of your portfolio in stocks.

 

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One in three 65-year-olds will live until age 90. This longer lifespan increases the amount of money you'll likely need to fund your retirement.

Longevity means a longer retirement than ever to fund

With the average American living longer, people spend more time in retirement—and need more money to fund it. In fact, about one in three 65-year-olds today will live until at least age 90, while one in seven will live to age 95.6

This longer lifespan increases the amount of money you'll likely need for health care costs in retirement. On the other hand, a longer lifespan also means you'll have a longer time horizon—potentially 30 years or more—in which to weather short-term stock volatility.

It's not just traditional medical costs that you'll need to consider. Especially if you encounter significant health problems—or are lucky enough to live into your late 80s or 90s—you may also need to fund other types of health care support. For example, assisted living costs on average $51,600 a year, while home care costs $53,772.7 To fund this, you will need your portfolio to keep growing as long as possible.

A rule of thumb is that 4% is a "safe" amount to withdraw from your retirement fund each year without risking outliving your money. But the assumptions this rule makes about longevity, investment returns, inflation, and even taxes may not match up to reality.

Morningstar's vice president of research John Rekenthaler compared8 long-term safe withdrawal rates for aggressive (100% stocks), moderate (50% stocks, 40% bonds, 10% cash), and cautious (90% bonds, 10% cash) portfolio allocations. He found that “no matter what the crisis — the Great Depression, the stagflation of the '70s, or the new millennium's technology-stock crash — possessing a meaningful stake in stocks helped retirees with a 30-year time horizon, rather than hurting them."

 

Rising interest rates deplete the value of bond holdings

While no one knows for sure the direction of travel on interest rates, economists and investors expect several interest rate hikes9 by the Federal Reserve this year, with the goal of dampening inflation.

Rising interest rates usually cause bond yields to rise and bond prices to drop. Here's why: When yields are higher elsewhere, investors sell their existing bonds to buy new ones paying a higher interest rate. This sale of older bonds (with lower interest rates) can trigger price declines in older bonds you may hold, devaluing this part of your portfolio.

To oversimplify, that's good news if you're hanging on to your bonds to generate an income. But it's bad news if you want to sell them.

Creating an effective retirement investing strategy is a delicate balancing act. You need portfolio growth, which means holding risk assets. But you also need capital preservation, which means you can't take too much risk. But in a rapidly changing world, sticking to a dated rule of thumb about portfolio allocation could stop you achieving your financial goals. To strike the right balance, speak to your Synovus financial advisor.

 

Important disclosure information

This content is general in nature and does not constitute legal, tax, accounting, financial or investment advice. You are encouraged to consult with competent legal, tax, accounting, financial or investment professionals based on your specific circumstances. We do not make any warranties as to accuracy or completeness of this information, do not endorse any third-party companies, products, or services described here, and take no liability for your use of this information.

  1. Copeland, Craig, "EBRI IRA Database: IRA Balances, Contributions,Rollovers, Withdrawals, and Asset Allocation, 2017 Update," EBRI. Published September 17, 2020, accessed March 22, 2022. Back
  2. Olivia Rockeman, "U.S. Inflation Hit Fresh 40-Year High of 7.9% Before Oil Spike,' Bloomberg. Published March 10, 2022, accessed March 10, 2022. Back
  3. Howard Schneider, "New Index Shows U.S. Inflation Expectations Shifting Higher," Reuters. Published March 8 2022, accessed March 7, 2022. Back
  4. S&P Dow Jones Indices, "S&P 500 Factsheet." Published February 28, 2022, accessed March 7, 2022. Back
  5. S&P Dow Jones Indices, "S&P 500 Bond Index Factsheet." Published February 28, 2022, accessed March 7, 2022. Back
  6. Social Security Administration, "When to Start Receiving Retirement Benefits 2022." Published January, 2022, accessed March 7, 2022. Back
  7. www.helpadvisor.com, "Everything You Need to Know About the Cost of In-Home Care," Help Advisor. Published December 13, 2021, accessed March 7, 2022. Back
  8. John Rekenthaler, "Better Stocks Than Bonds in Retirement." Morningstar. Published December 2, 2021, accessed March 7 2022. Back
  9. Olivia Rockeman and Craig Torres, "Powell Opens Door to Faster Rate-Hike Path to Curb Inflation," Bloomberg. Published January 26, 2022, accessed March 7, 2022. Back