Developing Your Asset
Allocation Strategy for
Retirement
Developed by Barbara O’Neill, Ph.D., CFP,
Rutgers Cooperative Extension
Adapted by Jean Lown, Ph.D.
Family, Consumer & Human Development, USU
Financial Planning for
Women
Second Wednesday of the month
» 12:30-1:30 in Family Life 318
– bring your lunch
» 7-8:30 at Family Life Center (500 N &
700 E – bottom of Old Main Hill)
» Same program
For email reminder: Sign up sheet or
send email to Lown@[Link]
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Overview
Asset Allocation Principles
Risk-Return Relationship
Application to Utah Retirement System
(URS) options
Application to TIAA-CREF Retirement
Investment Options
» 9 new investment choices (as of 2003)
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What Is Asset Allocation?
Process of diversifying portfolio
investments among several investment
categories to reduce investment risk
Example: 50% stock, 30% bonds, 20%
cash assets (e.g., Treasury bills)
Objective: lower investment risk by
reducing portfolio volatility
Loss in one investment may be offset by
gains in another
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Determinants of Portfolio
Performance
Security Market Other
Selection Timing 2.1%
4.6% 1.8%
Asset
Allocation
91.5%
Source: “Determinants of Portfolio Performance II, An Update” by Gary Brinston, Brian D. Singer and Gilbert L.
Beebower, Financial Analysts Journal May-June 1991
For illustrative purposes only. Not indicative of any specific investment. 5
The Callan Periodic Table
of Investment Returns
Illustrates the need for asset allocation
Shows how various asset classes
performed during the last 20 years
Best performing asset class changes
(e.g., large company growth stocks:
1995-99 versus 2000)
One year’s “winner” can be next year’s
“loser,” so you invest in them all
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Why Asset Allocation?
Because Market Timing is Futile
Value of $100 invested in large company
stocks (S&P 500 index) from June 1980 to
June 2000:
» $2,456 stayed invested entire time
» $613 if you missed the best 15 months
Biggest market gains are often concentrated
in short periods (can’t afford to miss)
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Second Example: The
Futility of Market Timing
If investor stayed fully invested, return
was 41.4%
If investor missed top 10 trading days of
1998, 1999, and 2000: -41.7% return
Based on S&P 500 stock market index
Moral: stay invested in both bull & bear
markets
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The Importance of Asset
Allocation
Asset allocation is the MOST important
decision an investor makes (i.e., buying
some stock, NOT Coke versus Pepsi)
Asset allocation determines about 90%
of the return variation between portfolios
This study has been repeated numerous
times,by different researchers, with
similar results.
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Why Use Asset Allocation? To
Increase Long Term Investment
Results
Scenario #1: $100,000 invested at 8%
over 25 years grows to $684,848
Scenario #2: $100,000 divided equally
among 5 investments (One loses
principal and other 4 earn 0%, 5%, 10%,
and 15% average annual returns).
Diversified portfolio will grow to
$962,800 over the long term
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Factors To Consider
Investment objective (e.g., retirement)
Time horizon for a goal (e.g., life
expectancy for retirement)
Amount of money you have to invest
Your risk tolerance and experience
Your age and net worth
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Downside of Asset
Allocation
A diversified portfolio MAY generate a lower
rate of return when compared to a single
“hot” asset class (e.g., growth stocks from
1995-99) BUT
You never know the “hot” asset class in
advance
Asset allocation attempts to reduce volatility
and provide a competitive rate of return
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Major Asset Classes
Large company growth Foreign stocks
stocks » Developed
Large company value » Emerging
stocks Bonds
Small company growth » Domestic
stocks » International
Small company value Real estate (e.g., REITs)
stocks
Cash assets (e.g., CDs,
Mid cap growth stocks
Treasury bills)
Mid cap value stocks
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Historical Average Annual
Rates of Return
Small Co. U.S. stocks = 12.6%
Large Co. U.S. stocks = 10.4%
» annual returns -50% to +50%!!
Government Bonds = 5.1%
Treasury Bills = 3.8%
Inflation = 3.1%
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Why Invest Internationally?
Correlations among world markets are low
(e.g., U.S. and foreign stocks)
World markets (especially small
companies) are driven by local dynamics
Investing in U.S. multinationals does not
deliver the same level of diversification
The benefits of diversification outweigh
currency, market, & political risks
U.S. accounts for less than 1/3 of the
world’s equity markets
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The Asset Allocation
Process
Define goals and time horizon
Assess your risk tolerance
Identify asset mix of current portfolio
Create target portfolio (asset model)
Specific investment selection
Review and rebalance portfolio
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Other Things to Know
About Asset Allocation
Portfolio risk decreases as the # of
asset classes increases
Best results are achieved over time
Diversify holdings within each asset
category
» Stock: different industry sectors
» Bonds: different types and maturities
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More Asset Allocation Tips
Stick to your asset allocation model
unless personal circumstances change
Rebalance when asset percentages
change by a certain amount (e.g., 2%)
» TIAA-CREF will rebalance automatically
(sign up for this feature)
Any one sector no > 10%- 30%
Ignore outdated guidelines (100 - age)
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Risk-Return Relationship
Low risk = low return
High risk = possibility of high return
Risk: chance of loss of principal in the
short run
» 2000-2003 stocks lost value
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Relationship Between Risk and
Return
High
Int’l Stocks
U.S. Stocks
Real Estate
Expected
Return Int’l Bonds
U.S. Bonds
Cash
Equivalents
Low
Low Risk High
For illustrative purposes only. Not indicative of any specific investment.
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Diversification From
Combining Investments
No Diversification Complete
Portfolio 1 Diversification
Portfolio 2
Investment A
Investment C
Investment B Investment D
Some Diversification
Portfolio 3
Investment E
Investment F
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For illustrative purposes only. Not indicative of any specific investment
Recent Example
2000-2003
Thank goodness some of my portfolio
was in bonds & real estate!
» Stocks tanked
» Bonds rallied
» Real estate saved the day
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Invest for Growth
There is no such thing as a risk-free
investment!
Retirement $ must grow faster than inflation
to provide financial security
» Average inflation = 3-4%
Risk is relative
» Short term volatility=long term growth
» Invest in stocks for growth
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Understand Risk Tolerance
Beware of taking risk tests and settling
for a conservative portfolio
How long are you likely to live?
Conservative investors risk outliving
their assets
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Stock Capitalization
Large Cap companies: valued at >$5
billion
» ExxonMobil, General Electric, Microsoft
Mid-Cap: $1-5 billion
» Bath & Beyond, Monsanto, Hilton Hotels
Small-Cap: <$1 billion
» Earthlink, FirstFed Financial, Vintage
Petroleum
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Asset Allocation Resources
Periodic Table of Investment Returns
» [Link]
Ibbotson Knowledge Center: Education
» Asset Allocation slide show
» [Link]
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Utah Retirement System
Funds
10 year returns as of 9/30/04
Low to high risk/return
Income 5.8% International 8.2%
Bond 8.1% Small Cap 12.4%
Balanced (stocks, bonds & cash)
8.9%
Large Cap Stock Value 15.5%
Large Cap Stock Index 10.6%
Large Cap Stock Growth 11.0%
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URS Horizon Funds
Fixed asset allocation in one fund
One stop shopping
» IF it suits your needs
Automatic rebalancing quarterly
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Time Horizon for
Retirement?
Until the day you retire?
Until the day you die?
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Short Horizon Fund
65% bonds 5 year time frame
20% income » 5 years to retirement or
10% index until death?
5% international » Conservative
» Low (but +) return (~6%)
– Subtract inflation of
3.5% = 2.5%
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Medium Horizon Fund
45% bonds 5-10 year horizon
15% international More diversified
15% index -6.8% to +20.7%
10% growth » 1998-2003
10% value 5 year avg.= 3.8%
5% small cap 5 years is too short
to judge
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Long Horizon Fund
20% bonds 10 or more years
25% international Higher risk =
25% index potential for higher
10% growth returns
-13.6% to +27.6%
10% value
5 year avg.= 2.4%
10% small cap
You’re in it for the
long run
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TIAA-CREF
TIAA Traditional CREF Stock
TIAA Real Estate Global Equities
CREF Money Market Growth
CREF Social Choice Equity Index
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9 New Fund Choices
Real Estate Mid-Cap Value
Securities Mid-Cap Growth
Growth & Income Small-Cap Equity
S&P 500 Index International Equity
Large Cap Value
Social Choice Equity
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Global vs. International
Global: U.S. and foreign
International: at least in theory, all
foreign
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Murky Mixture
Few of the funds are “pure”
CREF Stock
» 80% LG, 15% Mid, 5% Small-Cap
» Some foreign stocks
Mid-Cap Growth
» 59% LG! 39% Mid, 2% Small-Cap
Read Prospectus (or at least the summary)
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Growth Portfolio
10-15% International
10-15% Small-cap
10-15% Mid-Cap
10-15% Real Estate
10-15% Bonds
STOCKS!
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Adjusting Your Allocation
You can change future allocations
You can transfer current balance among
asset classes
Use web sites
Sign up for automatic rebalancing with
TIAA-CREF
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Great Internet Resources
[Link]
[Link]
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Tips For Funding a Tax-
Deferred Employer Plan
Diversify across asset classes
Avoid market timing
Choose investments with good historical
performance
» >10 year track record
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The Big Picture
Same principles can be applied to
» 401(k) plans
» Individual retirement accounts (IRAs)
» Other retirement plans
Past returns are NO guarantee for the
future!!
5-10 year track record is too short!
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Key Considerations For
Successful Investing
Establish policies and objectives
Stick to your plan and stay focused
Educate yourself to make informed decisions
Monitor investment performance
If you need help, seek a professional advisor
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Your “Action” List
Review your current asset allocation
Consider your other retirement accounts
Use the URS/TIAA-CREF web sites
» Risk tolerance quiz
» Asset allocation calculators
Talk with a representative
Reallocate, Rebalance, Re-visit
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Before You Decide
Read the website
Understand the risks
Make careful choices
You can always change your mind so
don’t be afraid to change your asset
allocation.
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URS & TIAA-CREF Reps at
USU
URS Cache County Offices, 179 N.
Main, 1st floor conference room
» Jan 13, Feb 10, March 10, noon-5
» Tuesday, May 10; seminar 9-4:30
TIAA-CREF
» Sign up with Human Resources
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Questions? Comments?
Experiences?
Feb. 9 FPW:
Investing on a Shoestring
Please fill out evaluation form
Ideas for future programs
Sign up for baby boomer retirement study
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