There are thousands of books, seminars, and graduate theses on asset allocation. While professionals, academics, and amateurs have myriad different and frequently competing views on asset allocation, various popular prescriptions are driven entirely by age. For example, the popular saying: Take 100 (or 120), subtract your age, and that’s the percentage you should have in stocks. Friends: Age is a factor, but by itself is not enough.

Is Age All That Matters?

If age were all that mattered, then two gentlemen aged 75 with similar-sized portfolios should have nearly the same asset allocations—always! If you’re a financial-services professional, maybe you like this idea. First, it’s less work for you—your client’s age becomes the singular driver, and that’s easy to figure out. Second, it provides you with cover. Clients can’t complain you steered them wrong on allocation because you followed a simplistic equation. Neat!
If you’ve read Bunk 3, you already sense the age factor alone is wrong. Our two hypothetical 75-year-olds, Jim and Bob, have age and portfolio size in common but little else. Maybe Jim is a widower with one son. Jim doesn’t care about maximizing his portfolio for his son. Jim’s not mean—his kid is super-successful and rich in his own right and doesn’t need the money. But Jim does need it to live on—anything left over is just gravy. Plus, Jim’s parents died at age 68 and 72. Jim’s not in failing health now, but he’s had two heart attacks. His genes and health speak to a short-term time horizon ahead of him, not a long one.
Then there’s Bob—his second wife is 60. Bob and his wife are in excellent health—play tennis daily. Plus, Bob’s parents both lived to their late 90s. Bob has multiple sources of income—doesn’t need cash from his portfolio. He wants it to help support his wife after he dies, but he figures she won’t really need it either, so the rest goes to his kids from the first wife—ages 51 and 49—who will likely live another 35 to 45 years, maybe even longer.
Just two examples—neither unusual. There are millions more. Why should people with different goals, income needs, return expectations, family situations, life expectancies, you-name-it, have allocations determined just by their ages alone? Age is a factor, but just one. And the asset-allocation decision is vital—it determines your portfolio’s benchmark—or what you’re trying to accomplish with your portfolio.
A benchmark is, simply, a market index (like the S&P 500 or the MSCI World Index) or a bond index, or a blend of a stock and bond index. Your benchmark serves as a roadmap for building your portfolio, a risk management tool, and a measuring stick for performance. You don’t always need to be exactly like your benchmark, but then you know you are taking deliberate moves away from the benchmark to satisfy some nearer-term goal—like taking a defensive position if you anticipate a bear market, or trying to capture additional upside in some category you have reason to believe is likely to outperform.

Determining Your Benchmark—Three Things

So when folks talk about “asset allocation,” they’re really also talking about their benchmark. So what determines your benchmark, if not age? Three primary things:
1. Time horizon
2. Return expectations
3. Cash flow needs
Time horizon (as you know from Bunk 3) is how long you need your assets to last. It is not some milestone in the future (e.g., retirement date, when you want to start taking cash flow, etc.). This is vital because your investing strategy should encompass the entirety of the life of your assets—you don’t want your assets to die before you do. Or worse, before your spouse does.
Return expectations cover whether you want to see more or less growth, or maybe none. There are some investors who want true capital preservation (see Bunk 6), but that’s very rare in my experience. Maybe you’ve got $50 million, live off $50,000 a year, aren’t philanthropic, are in fact a misanthrope, and have no plans for your money. You’re the rare person who actually can stuff it in your mattress—you have low return expectations. But most investors can’t (or shouldn’t) resort to the mattress. And if you’re the person who can, you’re very unlikely to be reading this book. Most folks need some growth—either to maximize the “terminal” value of their portfolios at the end of their time horizons or to help the portfolio stretch to provide needed cash flow. Or just to help combat inflation! (See Bunk 30.)
Which, then, brings us to cash flow—the third consideration. Many investors need their portfolio to cover living expenses, either now or at some future time. How much you need, and when, and for how long factors vitally into what an appropriate benchmark is.
There is a minor fourth consideration, but it usually amounts to small details. Some investors have social “needs” and prefer to not invest in, for example, “sin stocks,” like tobacco or gambling—they need a benchmark ex-sin. Or some can’t invest in certain stocks because they’re on the board of directors for some firm. Or, because of their job, they have big exposure to their firm’s stock. (See Bunk 34 on the perils of being over-exposed to one stock, including that of your employer.) They’re important details, but usually amount to small tactical maneuvers rather than major strategic shifts.
Not once did I mention age. Age impacts your time horizon, of course. (But most investors fail to think about their time horizons correctly.) And time horizon is important, but so are return expectations and cash flow considerations. They all factor in. Reducing asset allocation decisions to the age of the investor alone leads to some serious errors—the kind that may take a long time to become evident, but when they do, can be difficult or nearly impossible to reverse. Errors like failing to plan for enough growth to cover increasing inflation-adjusted cash flow over the next 25 years, so two decades or so later, you find yourself radically reducing your quality of life. Ouch. Now that’s some serious bunk.
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