Today, I am going to go through an exercise to show my 20 and 30 years old readers how they should go about selecting the proper asset mix within their portfolio. Most of my readers may have already done so, but now they’re thinking about readjusting, because maybe they truly didn’t understand what they we’re doing the first time around. Although my example truly applies to those with a 401k plan (or a 401a,403b, 457b) the same thinking can be used to select a portfolio of diversified stocks and bonds for the individual investor who maybe selecting assets for their traditional or Roth IRA. Moreover, this can help those who are simply individual investors looking for some tips on setting up an investment portfolio of their own outside of their work savings investment plans.
One piece of critical advice I would like to give before I get started would be for those people who are going at this alone, those who are not tied to a company sponsored retirement plan (where the company selects the investment firm, and in which you are limited to their options alone) should seriously consider a company that allows you to select from various investments, like those offered through Fidelity, Vanguard, American Funds, and multiple other sources. The reason being, your selections are too limited by only going with Vanguard, Fidelity, American Funds, or the multitude of other investment companies. Why choose only one? Find some where such as the mutualfundstore, where you can choose from multiple sources.
Now, back to the topic at hand, selecting the proper asset mix for your portfolio when you’re in your twenties or thirties. For this example, I’m going to assume that you have a relatively small amount of money for your asset allocation, meaning under $100,000. I’m also going to assume that you’re going to be in the market and investing for an additional 30, 40, 50 years or longer.
For this example I’m going to use Vanguard and the funds that are available through my own company sponsored retirement plan, and show you how you should allocate your money as a 30 year old. Depending on how much money you have, and if you’re older or younger than 30, you need to determine if you should be more aggressive or conservative.
So, here are my options in my retirement plan (my company has selected which funds we can purchase – and we get to select from the list):
Vanguard Prime Money Mkt Fund
Vanguard Retirement Savings Trust
Vanguard Total Bond Mkt Index Inv
Balanced Funds (Stocks and Bonds)
Vanguard Wellington Fund Inv
Domestic Stock Funds
Royce Total Return Svc
Vanguard 500 Index Fund Inv
Vanguard Explorer Fund Investor
Vanguard Extended Mkt Index Inv
Vanguard PRIMECAP Fund Investor
Vanguard Small-Cap Index Fund Inv
Vanguard Windsor II Fund Inv
International Stock Funds
Vanguard International Growth Inv
Vanguard Total Int’l Stock Index
Specialty Stock Funds
Vanguard REIT Index Fund Inv
My Company Common Stock Fund
A general rule of thumb I use as a 30 year old is, be as agressive as possible while remaining as diversified as possible. This means, I’ve got over 90% of my asset allocation in stocks, and the other 10% or less in bonds. I also like to think that it’s important remain globally diversified, meaning it’s critical to have international funds as a part of your portfolio, as much growth can be expected internationally, as opposed to domestically (here in the US). I would recommend you allocate around 20-30% of your portfolio internationally. As you can see, I’m limited to only 15 choices to invest in with my company 401k plan. I want spread my money equally across as many as possible. My investment horizon will be 30 to 40 years, meaning I will be in this for the long term, I’m going to be investing for 30 to 40 years until retirement, and at this stage in life I’m going to take as much risk as I possibly can (while remaining diversified). I will worry about scaling back my risks as I get older, evaluating my portfolio asset allocation mix every few years or so (likely only changing my mix every 5-10 years). I should expect to see wild swings over the long term, for example I’ve see 40% returns in my international funds over the last year, but that certainly won’t be the case in the near future, in fact, it may swing the other way sooner than later, but since I’m looking for long term gains, I’ve come to expect the swings, I sit tight and don’t touch them. Over the long term I will see returns around 10%.
So, how did I select my mix from the above funds? Here’s how in % (below I will discuss why):
Vanguard Prime Money Mkt Fund – 0%
Vanguard Retirement Savings Trust – 0%
Vanguard Total Bond Mkt Index Inv – 5%
Vanguard Wellington Fund Inv – 10%
Royce Total Return Svc – 5%
Vanguard 500 Index Fund Inv – 10%
Vanguard Explorer Fund Investor – 10%
Vanguard Extended Mkt Index Inv – 5%
Vanguard PRIMECAP Fund Investor – 10%
Vanguard Small-Cap Index Fund Inv – 10%
Vanguard Windsor II Fund Inv – 0%
Vanguard International Growth Inv – 10%
Vanguard Total Int’l Stock Index – 10%
Vanguard REIT Index Fund Inv – 10%
My Company Common Stock Fund – 5%
As a youngster, I’m looking for several things when selecting my asset mix; Growth, Value, Blend, and Index funds, with a tiny piece of bond funds as a safety net. What does this mean? I’m looking to invest in companies defined by the market as smaller companies with greater potential to grow than the big dogs, as well as companies deemed undervalued (value funds) and or some blend of the two. In addition, I like to pick funds that track indexes (or entire markets), so instead of trying to pick particular companies, you pick industries and invest in them. Lastly, your company stock is the riskiest investment you could possibly make, and it rarely makes any sense to invest anything in them, I’ve written an article telling you why this is a bad idea. Nonetheless, I’ve invested a small portion of my portfolio (5%), in my company, and as it stands I’ve lost a small amount of money on them, which just illustrates my point.
Having said the above, I tried to spread my money around as much as possible between international, value, blend, index, and bond funds. You’re best bet if you fit my demographic, would be to do the same.
Next up, I’ll do the same for my older audience, and help the 40 to 50 year olds select an asset mix for their portfolio that will allow them to make as much money as possible while keeping risk and how much time they have in the market left in mind.