Game Rules are Changing
The old rule of thumb was that retirement savers should subtract their current age from 100 to determine the percentage of stocks that they should own. For instance, a 65 year old should have 35% of their portfolio in equities. I believe today’s generation of baby boomers needs to own more stocks. In the past, a retiree could generate living expenses by reinvesting matured bonds at 5-6%. Unfortunately, low quality junk bond now have yields at this level. Retirement savers unwilling to take risk have found themselves in a quandary on how to generate enough income to maintain their lifestyle.
Every day there are dire warnings to get out of stocks, but markets continue to rally. The S&P 500 closed at an all-time high on Friday. Investment guru’s such as Jeffrey Gundlach and Bill Gross recommend that you should “sell everything”. Gross wrote in his August monthly commentary that we are in a high-risk, low-return stock market. Goldman Sachs also sounded the alarm on equities earlier in the week and recommended cutting exposure. On Tuesday, Donald Trump said you should sell your entire 401k.
As always, my thoughts on these predictions can best be summed up in a Warren Buffett quote,
“A prediction about the direction of the stock market tells you nothing about where stocks are headed, but a whole lot about the person doing the predicting.”
At some point, I promise you that all of these warnings will come to fruition. I just don’t know the ‘when’ part. If Buffett can’t time the top, I’m sure nobody else has a chance. In the last few months, there has been a melt-up and not a meltdown.
On Friday, the strong July jobs report triggered another 175 point plus rally in the DJIA. Even though markets have made such a strong move, stocks are not expensive. I continue to believe that the major risk is in the bond market and also holding too much cash. The value trap is in sectors that offer no growth and high dividends. Utilities and REITs are two areas that I’m avoiding. With markets at all-time highs and strong job growth, there is a chance that interest rates could begin to creep higher over time. Bonds are vulnerable if the economy continues to strengthen. The old rule of thumb to determine an appropriate asset allocation might not work so well in the future.
For my retired clients, I have slowly adjusted my portfolios away from bonds and into equities. There are other ways to diversify a portfolio without following the old rule of thumb. Financial stocks stand to benefit if interest rates continue to rise. I believe that this sector offers the best value and is a good way to hedge a portfolio with a large allocation of bonds.
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