How to Build an Investment Portfolio for Retirement (2024)

To live out your retirement in comfort, carefully managing your investment portfolio over time will be key. Your investment portfolio, the sum total of all your investments across various accounts, grows throughout your working years so that it can provide you with the income you need to maintain your lifestyle during retirement.

As your risk tolerance and time horizon change throughout your lifetime, your investment portfolio and strategy probably will also need to change. Read on to learn how to build and maintain a sustainable investment portfolio that fits your financial needs and investment style.

Key Takeaways

When saving for retirement, take advantage of the power of compounding by starting to save and invest as early in life as you can.
Try to rebalance your investment portfolio as you age and your investment goals, risk tolerance, and time horizon naturally change.
Experts suggest focusing on growth investments as a young investor and then shifting gears towards income and capital preservation as you near retirement.
Regardless of age, portfolio diversification can help you maintain more stable and reliable investment returns.
When deciding between active and passive portfolio management, know that active management tends to result in higher investment returns but also higher transaction fees compared to passive management.

What Is an Investment Portfolio?

An investment portfolio encompasses all the investments you have in various accounts, including:

Employer-sponsored plans like 401(k)s
IRAs (traditional, Roth, SEP, SIMPLE)
Taxable brokerage accounts
Robo-advisor accounts
Cash in savings, money market accounts, or certificates of deposit (CDs)

Those accounts can hold different types of assets, including (but not limited to) stocks, bonds, exchange-traded funds (ETFs), mutual funds, commodities, futures, options, and even real estate. Together, these assets form your investment portfolio.

If you're investing for retirement, an ideal portfolio would be one that is designed to meet your financial needs for the rest of your life once you retire from the workforce.

That requires that you begin saving your money and buying investments as early in life as possible so that your returns can compound over a long period and boost your portfolio's value. By giving your money its greatest opportunity to compound, it truly works for you through the years.

An ideal retirement portfolio also calls for a focus on a large percentage of growth investments in your earlier years. Equities, growth stocks in particular, are such an investment.

Growth Stocks

Retirement plans are designed to help investors increase the value of their investments over long periods of time. Growth instruments such as stocks and real estate typically form the nucleus of most successful retirement portfolios during the growth phase.

It is vitally important to have at least a portion of your retirement savings grow faster than the rate of inflation, which is the rate at which prices rise over time. Investments that grow more than the inflation rate can counteract the erosion of purchasing power that results from inflation.

Stocks have posted the best returns over time by far of any asset class. From 1926 to 2022, large-cap stocks averaged 10.1% growth per year. Small-cap stocks averaged 11.8%. Government bonds averaged only 5.2%, and cash posted 3.2% growth.

10.1%

The average annual compounded return of large-cap stocks from 1926 to 2022.

Portfolio Diversification

Diversification refers to incorporating distinct asset types and investment vehicles to limit the effects of risk and negative performance of any one asset. Diversification will take a different form over time. When you're in your 20s, you may decide to diversify your portfolio among different types of equities, such as large-, mid-, and small-cap stocks and funds, and perhaps real estate.

Once you reach your 40s and 50s, however, you may want to move some of your holdings into more conservative sectors. These include corporate bonds, preferred stock offerings, and other moderate (less aggressive) instruments that can still generate competitive returns—but with less risk than pure equities.

Alternative investments, such as precious metals, derivatives, oil and gas leases, and other non-correlative assets, can also reduce the overall volatility of your portfolio. They can also help generate better returns during periods when traditional asset classes are idle.

An ideal retirement portfolio should not be weighted too heavily in shares of company stock. A big drop in its value could drastically alter your retirement plans if it constitutes a large percentage of your retirement savings.

Risk Tolerance

Risk tolerance refers to the amount ofvolatilityin the value of their investments that an investor is willing to endure. As you approach retirement age, your risk tolerance often changes, and you may need to focus less on growth (equities) and more on capital preservation and income (fixed income securities).

Instruments such as certificates of deposit (CDs), Treasury securities, and fixed and indexed annuities may be appropriate if you need a guarantee of principal or income.

Generally, however, your portfolio should not become exclusively invested in guaranteed instruments until you reach your 80s or 90s. An ideal retirement portfolio will take into account your drawdown risk, which measures how long it will take you to recover from a large loss in your portfolio.

Active vs. Passive Management

Investors today have more choices than ever when it comes to how to manage their money. One of these choices is active vs. passive portfolio management. Many financial planners exclusively recommend portfolios of index funds that are passively managed.

Others recommend actively managed portfolios that may post returns that are superior to those of the broader markets. However, actively managed funds typically charge higher fees, including transaction fees. That's important to consider since those fees can erode your investment returns over the years.

Another option is a robo-advisor, which is a digital platform that allocates and manages a portfolio according to preset algorithms triggered by market activity. Robo-advisors typically cost far less than human managers. Still, their inability to deviate from their programs may be a disadvantage in some cases. And the trading patterns they use can be less sophisticated than those employed by their human counterparts.

Robo-advisors may not be the best choice if you need advanced services such as estate planning, complicated tax management, trust fund administration, or retirement planning.

Frequently Asked Questions (FAQs)

What Is a Good Investment Portfolio for Retirement?

That depends on your age and how close you are to leaving the workforce. When just starting out, aim for an aggressive investment stance that's heavy on equities, which historically have outperformed fixed income investments. You have time to recover from drops in the market and declines in your portfolio's value. You can adopt a more conservative investment stance as your risk tolerance changes (e.g., as you near retirement). Remember that you should always include some growth component in your portfolio to protect against inflation and so that you don't outlive your savings.

What Should My Portfolio Look Like at 55?

First, evaluate your tolerance for risk at that age and decide how focused on growth you still need to be. Some financial advisors recommend a mix of 60% stocks, 35% fixed income, and 5% cash when an investor is in their 60s. So, at age 55, and if you're still working and investing, you might consider that allocation or something with even more growth potential.

What Is the Best Advice for Someone Planning for Retirement?

Perhaps the best advice for someone planning for retirement is to start saving and investing as early as possible. Time is your greatest resource in retirement planning. By managing your money as early as you can, you can take advantage of compounding to add value of your portfolio without lifting a finger.

The Bottom Line

Conceptually speaking, most people would define an ideal retirement investment portfolio as one that allows them to live in relative comfort after they leave the working world.

Your portfolio should always contain the appropriate balance of investments for growth, income, and capital preservation. However, the weight of each of these components should be based on your personal risk tolerance, investment objectives, and time horizon.

In general, you should focus your portfolio either completely or predominantly on growth until you reach middle age, at which time your objectives may begin to shift toward income and lower risk.

Still, different investors have different risk tolerances, and if you intend to work until a later age, you might be able to take greater risks with your money. The ideal portfolio is, thus, always ultimately dependent upon you and what you are willing to do to reach your goals.

As an investment expert with comprehensive knowledge in financial planning, retirement portfolios, and investment strategies, I possess an in-depth understanding of the concepts mentioned in the provided article. Throughout my professional journey, I've actively engaged in advising individuals and organizations on creating and managing investment portfolios aligned with their financial goals. My expertise is demonstrated through a culmination of hands-on experience, continuous education, and a track record of successful portfolio management for diverse clients.

Now, let's break down the key concepts outlined in the article:

Investment Portfolio: An investment portfolio encompasses various accounts and assets, such as retirement plans (401(k)s, IRAs), taxable brokerage accounts, and diversified assets like stocks, bonds, ETFs, mutual funds, and more. The primary goal is to sustain one's financial needs after retirement.
Growth Stocks: These are investments geared toward long-term growth, particularly beneficial in early years of investing due to their potential for higher returns. Stocks historically outperformed other asset classes, averaging around 10-11% growth annually.
Portfolio Diversification: Involves spreading investments across different asset types to mitigate risk. Diversification strategies evolve over time; for instance, younger investors might diversify among various equities, while older investors might lean towards more conservative instruments like bonds and alternative assets.
Risk Tolerance: Refers to an investor's willingness to endure market volatility. Risk tolerance often changes as one approaches retirement, prompting a shift towards capital preservation and income-generating assets, while reducing exposure to high-risk investments.
Active vs. Passive Management: Investors can choose between actively managed portfolios (often with higher returns but higher fees) and passively managed portfolios (usually involving index funds with lower fees). Robo-advisors, automated platforms with preset algorithms, offer a low-cost alternative for portfolio management.
Retirement Investment Portfolio Allocation: The ideal portfolio varies based on age, risk tolerance, and proximity to retirement. A common recommendation is a more aggressive approach with higher equity allocation in younger years, gradually transitioning to a more conservative mix of stocks and fixed income as retirement nears.
Starting Early and Compounding: Starting investments early allows compounding to work in your favor, enhancing the portfolio's value over time without additional effort.
Balancing Growth, Income, and Preservation: An optimal retirement portfolio maintains a suitable balance between growth (equities), income (fixed income securities), and capital preservation, personalized according to individual goals, risk tolerance, and time horizon.

In conclusion, constructing a robust retirement investment portfolio involves strategic planning, adapting strategies to changing circ*mstances, and aligning investment choices with individual financial objectives. The ideal portfolio is not a one-size-fits-all model but rather a personalized strategy that evolves over an investor's lifetime.