100% Stocks in Retirement?

Your asset allocation drives your portfolio’s return, so it’s arguably the most important investment decision you’ll make.

Stocks have historically provided the best long-term returns, but can also expose your portfolio to hefty short-term losses.

Therefore, a key allocation question is how much to own in stocks during retirement.

Two papers recently addressed this.

The first, Beyond the Status Quo: A Critical Assessment of Lifecycle Investment Advice, recommended a 100% stock portfolio in retirement.

The second was a rebuttal by Cliff Asness in Why Not 100% Equities?

Case for 100% Stocks

The case for stocks is easy. They’ve gone up the most over the long-run. So, any allocation away from stocks lowers your long-term expected return. As Asness writes in his piece, “staggering stuff.”

Case Against 100% Stocks

This gets more complicated. There’s definitely a case against 100% stocks in retirement, but I don’t think it’s the one Cliff Asness makes.

I don’t know anyone who thinks a portfolio of stocks and bonds (60%/40% to keep things simple, though that ubiquitous choice is pretty arbitrary) has a higher unconditional expected return than 100% stocks. We (academics, practitioners, anyone who’s taken a cursory look at modern finance) prefers a diversified portfolio because we believe it has a higher return for the risk taken, not a higher expected return.

Why Not 100% Equities by AQR

Ahh. Sharpe Ratio. An alternative investment manager’s favorite modern finance concept. Or an underperforming active manager’s preferred conversation point.

Per Investopedia, “the Sharpe ratio divides a portfolio’s excess returns by a measure of its volatility to assess risk-adjusted performance.”

It puts returns earned by “riskier” investments in context by adjusting for the investment’s volatility.

It tells you something, and it’s an important factor in portfolio construction. However, in 23 years as a wealth manager, I’ve never had a client come in and complain to me about their portfolio’s Sharpe Ratio.

And too often for investment managers improving a portfolio’s Sharpe Ratio means investing in asset classes or strategies without a pathway to great returns that lower portfolio volatility enough to make the risk-adjusted returns look better.

Asness touches on this in a way when he writes, “Liquid alts [alternatives], even if diversifying and attractive on their own, can be hard to use to improve a portfolio’s top-line expected return (not its risk adjusted return, which is much easier to do) if they take very low volatility.”

Your Goal: Avoiding Two Different Disaster Scenarios

The stronger argument why you should be careful about 100% stocks in retirement is to protect against the real risk to investors: not meeting your financial goals.

And a 100% stock portfolio exposes you to two scenarios that can drastically reduce your odds of success.

Weak Stock Market Returns

Stocks may have weak returns during your retirement. Yes, over the long run they return about 10% per year, but there have been 20 year time periods where their average annual return is just over 2% and 30 year time periods where it’s just over 3% (as measured by the S&P 500).

To be fair, Beyond the Status Quo addresses this concern by advocating for a global stock portfolio – 50% U.S. and 50% International.

That diversification should help, but the international stock market benchmarks have not been around nearly as long as the S&P 500 and you can’t bank on international diversification ensuring that your 20 to 30 year returns are robust enough to make the all-equity portfolio worth the risk.

Making the Big Mistake

An all-stock portfolio will likely experience vicious drawdowns during your retirement. During my career, the S&P 500 has had bear market losses of 49%, 57%, 34%, and 24%.

And guess what I’ve seen in those bear markets?

People selling stocks at the wrong time, locking in their losses. And very few were in all-stock portfolios.

The authors of Beyond the Status Quo acknowledge this when they explain that some of the more diversified approaches can protect investors “from the adverse effects of behavioral biases”.

The mindset shift from saving your assets and building a portfolio to spending your assets and withdrawing from your portfolio is hard enough for people. Pair that with a portfolio that could be down 50% at the same time…I don’t see it as a formula for success.

Final Thoughts

Having an all-stock portfolio in retirement isn’t right for most folks, but an investor who has a history of handling short-term market losses well and a goal of maximizing their wealth during retirement could consider higher stock market exposure than the traditional 60/40 stock bond mix.

Your asset allocation shouldn’t automatically become more conservative as you age, and target-date funds which are managed that way are not ideal for high net worth investors as they can become too conservative and don’t factor in the current market environment when making asset allocation decisions. More on this in Is Your Target Date Fund Missing the Mark?

International diversification helps improve your potential outcomes during retirement. There’s no crystal ball indicating that any allocation will do better than another, but the data shows that a global stock portfolio reduces your risk of earning sub-optimal returns during retirement.

Stock Investing Mistakes