Whether you rebalance your portfolio every month, year, or decade, there’s something else to keep in mind:

You’re not getting any younger!

This can be painful stuff. It’s bad enough remembering your own mortality when trying (/squeezing) on new jeans or racing your kids around the park.

But the fact is our ideal asset allocation will likely change as we get older, too.

This means your age is another factor to consider when rebalancing.

The general idea is to shift your asset allocation as you age. As the policemen look ever younger and the lineup at Glastonbury seems ever more foreign, you want to have ever less of your money in higher risk assets such as shares, and more in lower volatility assets like bonds.

This is not because of the increasing risk of having a heart attack if the stock market crashes.

It’s that you’ve less time left to recover from such big falls.

You’re closer to needing to spend your money. Or to be blunt not needing it at all.

How low can you go?

Conventional investment wisdom doesn’t suggest you completely abandon equities as you age. Diversification is still valuable, even if you’re more an old rooster than a spring chicken.

Shares offer some protection from higher inflation over the long term, as well as hopefully stretching your funds a bit further. A 70-year old can expect to live for another 15 years, and a sizeable number will live much longer than that. That’s still well within the time horizon for reasonably expecting decent returns from shares.

Of course we don’t know exactly how long we’ve got, which is what makes all this much more complicated than it would otherwise be. The best we can do is muddle through (and remember that Logan’s Run didn’t exactly sell the alternative…)

The classic principle governing age and asset allocation is:

• Hold 100 minus your age as a percentage in equities
• Hold the remainder in bonds

If you were 30, you’d hold 70% equities and 30% bonds in your portfolio.

A 70-year old would hold 30% in equities and 70% in bonds.

I’m not sure what you’re meant to do if you’re 101. Maybe pat yourself on the back and order another whiskey!

Actually, as life expectancy has increased, this rule of thumb has been tinkered with. Some people now suggest using 110 instead of 100 in the sums, for instance. But the basic idea is clearly to dial down on shares and add more bonds.

Shifting away from equities as you age isn’t a universal rule, however.

Rules are made to be broken

The high yield equity portfolio (HYP) concept is one alternative that was once very popular on UK investing discussion forums.

The idea is you permanently hold a basket of high-yielding blue chips and live off the income. The capital value of the HYP may fluctuate, but the dividend income should be more stable – and potentially even grow – over time.

In recent years, investors seem to have realized they can get similar and probably safer exposure from a basket of well-chosen investment trusts or funds, or even higher-yielding ETFs.

However you do it, the huge downside of trying to live only off the income from your portfolio – besides the uncertainty inherent with shares – is you need a lot more money.

Most people end up with far smaller retirement pots than would be required. So they must work on the assumption that they’ll be selling it off to generate an income.

And it’s the uncertainty of the price you’ll get for your risky assets like shares when you need to sell them that is behind the shift into bonds and cash.

Also, this uncertainty compounds. A few bad years as you approach retirement or early on when you’re spending your portfolio can really knock you back. In contrast a few bad years at the end of your life may by that point be irrelevant, since you have more than enough cash to see you through.

Such sequence of returns risk is intractable. It also leads to survivorship biases. Someone who retired in the mid-1980s will tell you that keeping all their money in shares was a no-brainer, whereas a 2008-vintage retiree may urge you to swap everything for gold the moment you’ve seen your last pay slip.

(Neither is advisable!)

Retirement researchers have begun to suggest in recent years that the optimal approach might be to reduce your exposure to shares and other risky assets as you approach end-of-work D-Day – but then to actually start to add more shares to the mix again as you proceed through retirement.

Have a read and see what you think. I think the maths – and to an extent the logic – makes some sense. But I’d be concerned at betting my one-shot at being retired on a new theory that could be distorted by how returns have played out in the past. The future could be different.

We know that cash and bonds – and annuities for that matter – are relatively lower-risk. Shares can always crash 50% or more in a year.

If you can afford to, I think it makes sense to build the core of your retirement plan around the closest thing we get to knowing in investing.

Live forever?

As Lars Kroijer has pointed out on Monevator, if you’re rich things may be different. Your time horizon may extend beyond your own needs – and your death – as you look to provide for a partner, an estate for your loved ones, and even a trust or bequest for a cause you believe in.

The very wealthy can create a super-safe income floor from low-risk assets. They can then keep the rest in higher-risk investments like shares, property, and the illiquid assets so beloved of the truly loaded, such as forests, paintings, and copper mines in the Balkans.

You’ll need to pony up for advice on how best to do all this, though.

Age and rebalancing your portfolio in practice

However you decide to change your asset allocation as you age, re-balancing time is the ideal opportunity to put it into practice.

Studies suggest that many investors simply set up their investment plans in their 30s and 40s and never touch their asset allocation again.

With the equity portion likely to grow over time and the bond portion comparatively static, this means such investors become much more exposed to equities as they get older. As we’ve discussed, the accepted view is they should become less exposed!

Regular rebalancing at least avoids your portfolio becoming ungainly – and excessively risky. But by making small incremental shifts to our asset allocation over time, we can also tilt towards our desired long run asset mix.

We run our Slow and Steady model portfolio this way, shifting 2% of our equity allocation to bonds every year, regardless of what the market does.

Running your own age-related lifecycle fund

Target date or lifecycle funds are funds that rebalance portfolios as the owner ages.

They’ve become popular in the last few years, and they promise to mimic what a wealth adviser would do to a client’s portfolio, by shifting the asset allocation as the client ages to less risky stuff.

If you’re managing your own money, you can do the same thing by rebalancing towards your age-related targets over time.

If you know that you want to move from 75/25 equities to bonds to a less volatile 25/75 mix by retirement, then your regular rebalancing could take this into account.

You might allow the overall bond portion to rise by 1% a year, and run down your equity exposure accordingly, for example.

Or you might set hard targets, such as a 50/50 split between equities and bonds when you’re 50-years old, then rebalancing to 40/60 in favor of bonds on your 60th birthday.

This could be a particular apt strategy if you’re keeping things very simple with Vanguard LifeStrategy or similar auto-rebalancing funds. But personally, I’d favor a more gradual approach.

What if there’s been a huge bull market in shares and you’re getting very close to retirement?

An investor who was approaching retirement in 1999 would have done very well rebalancing towards bonds just before the dotcom crash. In contrast, an investor of the same age who got greedy and kept running up the equity position could have ended up much poorer.

This is straying into active investing territory. Readers may recall I frolic in it personally, but most people (and who knows, maybe me) would be better off following my co-blogger’s purely passive lead.

That’s because is it’s very hard to know when you’re in a truly overvalued scenario. Most purported bubbles are just normal bull markets.

Even missing the early years of what turns out to be a bubble can be detrimental.

If an investor had got nervous in 1996 and sold down his equities, he’d have missed out on much of that great bull market. If he then threw in the towel – and all his money – in 1999 by buying far more shares late to try to make up the difference, he could have blown up his retirement pot permanently.

Following rules doesn’t remove all the risk, but it does lessen the risks of poor judgement and making mistakes.

Age is more than just a number

Ultimately you must make your own decisions about how age affects your rebalancing.

Whatever you decide, just don’t pretend you’re Peter Pan. And remember too that getting old may well reduce your ability to juggle assets like a hedge fund manager on Billions.

True, there are some great old investors. But the consumer watchdog shows are also stuffed with elderly people who fell for nonsense scams.

One more somewhat depressing reason to reduce risk in your portfolio as you get older.

The following guest post is by Mark Meldon, an independent financial advisor (and Monevator reader!) who we’ve noticed talking a lot of sense over the years. We thought we’d ask him to explain some of the more obscure or technical corners of personal finance.

A frustration I often face when talking to individuals is that they have usually first contacted an IFA1 like me because something ‘interesting’ is going on in their lives, such as pending retirement, investing a lump-sum, or some other relatively sexy financial planning matter.

That’s understandable, but not ideal. Rather than firefighting like this, I think it’s important to remember the basics. It’s all about the risk of something unexpected happening, such as illness, disability, or an early demise. These events can quickly wreck the best laid investment plans.

I’ll return to long-term ill-health and critical illness insurance another time. Today, I’ll explain what I think to be a good approach to life cover. (Or should that be death cover?)

Specifically, let’s consider a very useful but often overlooked kind of life policy called Family Income Benefit or FIB.

You’ve never heard of Family Income Benefit?

Perhaps the best way of explaining Family Income Benefit (FIB) is to call it installment term insurance.

Unlike all other kinds of term life insurance, FIB isn’t designed to pay out a lump-sum on death, although your beneficiaries will be given that option should a claim arise. (Hint: Try to avoid choosing this so-called ‘commutation’ option because you defeat the whole purpose of the policy).

FIB, rather, pays out a specific amount of cash every month or quarter following the death of the life insured under the policy. These payments continue from the date of death until the end of the term of the policy that was chosen at outset. The monthly installments are tax-free in the hands of the beneficiaries; these are normally spouses/civil partners and children.

One big benefit of FIB is it completely removes the hassle and risks associated with investing lump sums. You can think of FIB as a kind of temporary guaranteed pension.

For example, let’s say today your youngest child is two-years old. You hope that they will go on to higher education, so you are going to be on the hook financially for about 22-25 years. In this instance you could set up a FIB policy (in trust) with a 22-year term for, say, £2,000 per month benefit (flat rate or indexed policies are available – it’s best to chose indexed ones).

• If you die in year two, your beneficiary will be paid £2,000 per month for 20 years (£480,000).

• Should you die in year 20, your beneficiary would be paid £2,000 per month for two years (£48,000).

As the risk to your chosen insurer decreases with each year that passes, the cost of these policies is very low in comparison with large lump sum policies.

Remember though that lump sum polices will pay out the pre-selected sum insured right up until the penultimate day of the chosen cover period.

Family Income Benefit in action

Some years ago now I met a police sergeant and his wife. At the time their only child, a daughter, was about seven-years old. Whilst he had a very decent pension, they had a mortgage and I arranged a lump sum policy to cover that, and also FIB on both husband and wife as separate arrangements at the same time.

Whilst his wife and daughter would benefit from a decent police pension had he died, the idea behind arranging the FIB was to cover the school fees they were committed to paying.

His FIB was arranged to run over 18 years up until their daughter was about 25. Norwich Union (now Aviva) was the FIB provider. The sum insured was £12,000 a year, going up in payment by a fixed 5% p.a., compound (that’s important).

About three years after I arranged all of this, they bought a semi-derelict house and started renovation work whilst living in a caravan on site. Sadly he then got sick and died after some months of struggle

The lump sum policy paid off the mortgage and the police dependants’ pensions started shortly thereafter to help with his widow’s everyday living needs. The FIB also swung into action. That little policy paid out for 15 years and took their daughter through private school, university, a masters, and almost covered her time undertaking a PhD. Nearly every time I see the widow and her daughter, they mention that simple little FIB policy:  “We didn’t have to think about investing the money, it just arrived every month”.

The FIB was written into a simple trust at the outset. The payments were all tax-free and paid very promptly. I recall that the monthly premium all those years ago was £6.02.

FIB ticks a lot of boxes and can be used for other things aside from family protection. I’ve used it for alimony insurance in divorces/separations, and as a kind of pension source for the spouses/partners of small business owners.

Where can I buy a FIB policy?

Whilst an IFA will look at a wide range of insurers – and be paid a modest commission for placing the policy – it is possible to buy a FIB policy directly from an insurance company.

At the moment, there are seven major providers offering competitive FIB policies: AEGON, AIG, Aviva, Legal & General, LV=, Royal London and Scottish Widows.

Whilst these policies all have the same underlying concept, they differ as far as the extra cost (but valuable) indexation, waiver of premium, and the much more expensive critical illness insurance riders are concerned.

These optional benefits can be well worth having. As with everything, the lowest priced contract isn’t necessarily the best value!

What might FIB cost?

Whilst all life insurance companies will carefully underwrite new policies based on your health and lifestyle, the majority of FIB applicants can expect to obtain standard terms. The younger you are, the less expensive it will be.

For example, a male non-smoker aged 38 choosing a FIB policy running for 22 years with an indexed sum insured of £2,000 per month might expect to pay between £18-21 per month for a plan (Source: The Exchange). The premium and sum insured in this example will go up each year in line with the indexation provision under the policy. This is often linked to the RPI2.

An IFA would be paid commission for arranging this insurance policy. (They are non-investment policies, so commission was retained after the RDR in order to try and maintain sales). The IFA would have the choice of an up-front payment or throughout a defined term of the policy.

In this example, the up-front commission would be about £400, or something like £11 per month for 48 months and 50p thereafter. My preference is to not take up-front commission.

Things to remember with Family Income Benefit

• It’s cheap, because the risk to the insurer reduces each year.
• If you chose the indexation option, you pretty much obtain a zero risk, guaranteed, secure, regular tax-free income stream for your beneficiaries from the date of death to the end of the chosen term.
• The marketplace in the UK is very competitive so premiums are very attractive, in my view.
• One of the main purposes of purchasing a life insurance policy is to provide a fund to replace the earnings you were contributing to the family pot. Rather than undertaking complex decisions at a time of grief on what to do with a large lump sum, your beneficiaries may well prefer a FIB to cover their everyday living experiences.
• It is much better to choose the indexation option at outset, in case living costs rise a lot in the future.
• Don’t over-insure; the policies you take should be appropriate to your current and future plans.
• I rarely arrange FIB on its own; the provision of an additional lump sum of a reasonable amount can provide a ‘dip-into’ fund for one-off costs and will help preserve the guaranteed income stream from the FIB policy.
• You will get asked lots of health and lifestyle questions when you apply. Your answers must be truthful. Most cases of refusing to pay out are due to non-disclosure.
• Notwithstanding that point, something like 98%-99% of all claims are met by the UK’s life offices.
• Shop around on-line, or hire an IFA to sort all of this out for you.
• Finally, don’t procrastinate if you have identified a risk you need to cover with insurance. Things change – and if you get sick then you might not qualify for cover at all.

Mark Meldon is an Independent Financial Advisor based in Cheddar, Somerset. If you need an IFA closer to home, try the directory at Unbiased. You can also read Mark’s other articles on Monevator.

1. Independent Financial Advisor [↩]
2. Retail Price Index, a measure of inflation [↩]

Politics, then the best of the articles I read this week.

After last year’s ill-advised EU Referendum and its even more malodorous result left me impotently railing, I wondered whether I shouldn’t have done more politics on Monevator beforehand. Readers from both sides of the vote asked me the same thing.

The truth is mostly that as a fully paid-up member of the Liberal Elite, I hadn’t ever really believed the British electorate would dislike their own feet in sufficient numbers to start blasting away at them.

A sizeable cadre of constitutional diehards? Sure, and a smattering of undesirables. But a winning majority?

Well, we know how that turned out. A Coalition of Incompatibles voted Leave for a dozen different reasons, and here we are.

Yet metropolitan arrogance wasn’t the only thing that stopped me. While I write about these things from time to time because I’m a blogger and writing is what I do, politics isn’t something I claim any expertise in and this site is meant to be about investing.

So I also didn’t want to waste your time and attention.

The depreciated pound in your pocket

This is also why I haven’t written much about next week’s General Election. Besides, for many people – including most readers of this blog – there isn’t a great deal in it between the major parties, from a financial perspective anyway.

Consider this analysis from the Institute of Financial Studies (via David Weston on Twitter):

Okay, so this seems to ignore any secondary impacts from other policies. (Labour going heavy with the old tax-and-spend routine and thwacking the economy, say, or the Tories turning us into Sterling Singapore). But that aside, the relative proximity of the Conservative and Labour impact lines is clear.

The Liberal Democrats are the outlier, and it would be tempting to say that’s because as the perennial third-party they’ve not put forward real policies. Except they actually have pledged to increase income taxes by 1% across the board. That money is said to be earmarked for the NHS.

• Read the Liberal Democrat manifesto’s key points at the Evening Standard.

As for the two main contenders, unless you’re somewhat income poor or very income rich, it doesn’t seem to matter much which party wins.

Of course, that still leaves 30-40% of people for whom it really does matter – and that’s where all the rhetoric and debate is focused.

Labour’s whacking of the wealthiest stands out, and it’s easy to accuse them of old-fashioned class war. But then when you look at who has done well since the financial crisis, it’s pretty clear it’s the richest, mostly through rising house prices and buoyant stock markets.

Indeed, the more I think about Jeremy Corbyn and his Labour manifesto – which instinctively I don’t like at all – the more I’m left thinking if you’re not going to vote in some old-school redistribution now, in our current circumstances, then when?

• Compare the financial points from the Tory and Labour manifestos at ThisIsMoney.

There’s an awful lot NOT to like about this Labour party, especially its front bench. I’ve spent years bemoaning them to my far more lefty friends. (I’m nearest to a New Labour sort at heart. Or better yet the US Democrats.)

And yet the Tories and Theresa May… give me strength.

May be not

When the election campaign began I was aghast at May’s authoritarian overtones, yet that now represents something of a high point in my feelings about her.

It’s one thing to adopt the mantle of a one-party State tyrant if you’ve actually got the swagger and political vision to pull it off. But May increasingly seems little more than a cipher.

Making the election campaign all about Mrs May has backfired spectacularly. Instead of a clever Machiavellian schemer who, for instance, brought her enemy Boris Johnson into the cabinet to neuter Brexiteer opposition, I’m more inclined these days to see a weak and flip-floppy opportunist.

Her imminent opponents in the Brexit negotiations must be rubbing their hands with glee.

So much for May’s character. But the mendacious immigration target aside, I don’t mind the Conservative manifesto too much, despite claims that when you run it through a computer simulation the UK collapses. Even the so-called Dementia Tax was a fairly progressive piece of legislation in the eyes of someone like me who’d love to whack up inheritance tax.

Squint a bit and – thanks to the lack of detail – you can almost see a Tony Blair-style Labour leader campaigning under this Conservative manifesto.

But then I look at the distribution in the graph above, and again I think about how we’re now nearly ten years into austerity, and I reconsider…

Today I read that even Blairite Alastair Campbell’s son is going to vote for Corybn.

Of course I’m concerned about this flavour of Labour hiking taxes and going on a spending spree. But I watch videos like this harrowing one about a disabled woman who can’t walk risking her life going down the stairs and I wonder where even the taxes I’m paying are going, if not on helping somebody like her?

The UK’s tax take is about average at around 33% of GDP. I’d see it rise by 1-2% if it meant I’m not confronted by videos like this.

On the other hand, I wouldn’t support higher taxes if they’re just going to slosh into public sector inefficiencies and wage hikes, and closed shop ‘that’s not how we do it around here’ stasis.

Which let’s face it, they at least partly would.

Party pooper

You see, I’m no party political animal. I’ve voted Conservative in my time, and I’ve even voted Green in local elections. I’d vote for the Liberal Democrats in this one if only for their stance on Brexit, but it’d be a wasted vote in my constituency.

•  For a great explanation (with cool interactive tools) on alternative voting systems, go read this. Especially if you’d prefer not to have to vote tactically, which as things stand you probably should if you don’t want to see a Conservative government.

The Economist has also plumped for the Liberal Democrats, daydreaming about how:

“…the whirlwind unleashed by Brexit is unpredictable. Labour has been on the brink of breaking up since Mr Corbyn took over.

If Mrs May polls badly or messes up Brexit, the Tories may split, too. Many moderate Conservative and Labour MPs could join a new liberal centre party—just as parts of the left and right have recently in France. So consider a vote for the Lib Dems as a down-payment for the future.

Our hope is that they become one element of a party of the radical centre, essential for a thriving, prosperous Britain.”

Um, that isn’t going to happen, The Economist.

What an uninspiring choice. The three main parties are like an unwinnable version of the rock-paper-scissors game. Corbyn’s unpleasant friends in his past versus May’s gruesome friend in the White House versus Tim Farron’s lack of friends among the electorate. Labour’s timely redistribution versus the Tories finally raising the higher rate income tax band versus the Liberal Democrats’ penny on income tax to fund the NHS that most of us cite as a top priority. Corbyn being right about Iraq versus May’s not faffing up in the Home Office versus Farron’s principled approach to the Brexit car crash.

On and on and on. (Oh yeah, THIS is why I don’t do party politics…)

At least a Conservative coronation now looks less likely. That’s perhaps the best reason to vote Labour – and maybe especially if you voted for Brexit. Less than a year after the Referendum and May has already been treating the opposition with contempt, calling elections for her own political ends, refusing to engage with the public, and asserting without evidence that she needed a General Election to give her a mandate to negotiate a Brexit that her own party’s machinations got us into.

It can’t go on this way. If we won’t have a European parliament in the mix anymore – if you want our politicians to be in control of our future – then our own Parliamentary system needs to do better.

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