The year’s unusual economic and investment uncertainties have not been witnessed in decades. High inflation, raising interest rates, and declining prices in both the equity and fixed income markets have been painful for investors, consumers, and businesses.
My last blog (titled “Is The Economy in Recession?”) discussed these difficult conditions and a debate among economists and investment professionals about whether the economy is declining or about to start a downturn. In that article, I explained that the truth about the economy is often ambiguous and that accurate forecasting is very challenging. The reality is that anticipating the short-term direction of the financial system, the markets, and specific investments is a very tricky exercise.
Consequently, making significant changes in a financial and/or investment plan based on guesses, even if well informed, might not be a very good idea and could even be counterproductive. However, that does not mean each person should do nothing and hope for the best.
That advice may especially apply to people are in mid-life and experiencing career transition. These individuals might need to rely on their savings sooner rather than later since they may be planning on retiring or pursuing career paths with less earnings potential before leaving the workforce. And of course, some individuals are already retired and have long-term portfolio withdrawal needs.
Poor investment results in both equities and fixed income instruments during 2022 have especially impacted people in these circumstances. While bond market declines are not unprecedented, many people understandably expect bonds to hold up far better than what has occurred this year.
Witnessing high levels of volatility in a broad range of investments may put added pressure on those relying on their savings to pay for their living expenses. If you are in midlife career transition and/or are retired, here are four steps you may consider to try to navigate these difficult conditions.
Understand Withdrawal Needs
There is nothing at all wrong about withdrawing money from your investments, either because you are retired, or going through a career change! If you are in this situation, it is important to understand any withdrawals you may need in the future to meet your lifestyle expense needs.
Any money you may need for those living costs over 1 to 2 years should be in cash or investments with almost no volatility. This will allow you to keep the remaining portion of your investments (those savings not needed for short-term needs) invested based on your medium and long-term investment goals.
If you have already left the workforce or are planning to do so very soon, this approach is also very useful. In addition, I recommend that retirees prepare a long-term cash flow and portfolio withdrawal projection. This will help you understand your potential annual withdrawal percentage, a key indicator of financial success during retirement.
This projection may serve to help you understand whether your withdrawal needs may be sustainable over the long-term. Research has shown that continued annual withdrawal rates exceeding 4% may lead to an accelerated depletion of your savings and likely compromise your retirement.
Understand Your Savings Goals and/or Reduce Your Spending
If you are preparing to stop working in two or three years, you can consider reducing your lifestyle expenses to increase your savings rate. Of course, you may not be able to make such changes, especially in the face of an inflationary environment, in which case this approach may be unfeasible.
On the other hand, increasing your savings, if possible, could further bolster your financial position to support your eventual retirement needs, which will increase the chances of successfully moving toward your long-term financial goals. Reducing your expenses could also be applicable to current retirees, not just those in between jobs.
Consider Your Risk Tolerance and Investment Goals
Your feelings about investment risk are important. As some of us move into a new life chapter, our feelings about investing and risk might change. For example, many people may have primarily invested in equities over most of their lives. They may no longer have the same comfort level in primarily relying on stock investing as they move toward different life circumstances. They may want an investment strategy that seek to provide income or investment returns that have the potential to perform differently and with less volatility than stocks.
Change Your Investment Allocation
New life circumstances may call for a different approach to your investment strategy, especially in a changing economic landscape. If you are concerned about economic or investment risks as you move into a new life stage, there are two approaches you could take.
The first is to significantly reduce exposure to both stocks and bonds and move toward cash or very short-term US Treasury bonds. That means accepting returns over a long-term horizon that may not likely keep pace with inflation, which may reduce your purchasing power over the long-term and reduce the chances of living a financially confident retirement.
And timing the market has been shown to be a loser’s game because you have to be right twice – once when getting out of stocks and bonds, and then deciding when to get back in. Therefore, I think a better way to address economic risks is to diversify toward investments which have the potential to provide returns that move in a different direction than the stock market and to the forces of economic growth.
This may include increasing investments in fixed income instruments or to alternative asset classes. Keep in mind that all investing involves risks, including fixed income investing and alternative investments. Diversification does not guarantee against or prevent a decline in your investments. Fixed income investments have historically been reliable investments over the long-term and provide income. However, they can decline in value with stocks when interest rates and inflation are on the rise, as we saw in the first half of 2022.
Some alternative investments have the potential to hold up during periods of high inflation when both stocks and bonds are declining in value. However, they come with their own risks which may offset these benefits. There are a very broad range of investments that fit into this category and their specific risks are different. Some also come with very high fees and may not be as “liquid” as stocks and bonds. They may also perform poorly if the inflation rate begins to recede.
When evaluating any investment, I urge you to speak to a financial professional and read a prospectus to understand the risks and costs.
Summary
There remain uncertainties about the direction of the economy and the financial markets as always. However, there are a number of logical strategies that those in transition or retired may pursue if you think changes may be necessary. The key may lie in having a comprehensive understanding of your financial circumstances and maintaining a long-term focus when it comes to your investments.
As always, my firm stands ready to support your financial journey. If you have questions about your situation, please feel free to contact my office. I remain committed to helping people objectively understand their situation and your options for developing a sound strategy that will help you confidently navigate the inevitable uncertainties of today’s ever changing landscape.
I wish you all a happy and enjoyable summer!
