Equity risk = 50%
Markets go for very long periods of time without major corrections or crises. However, investors who are unprepared to lose half the value of their stock portfolios will potentially make catastrophic choices. Stocks are suitable for investors in many situations, even currently in retirement, but learn to understand and accept the volatility.
Example: Moderate Portfolio with 60% in stocks
Expect to lose 30% (half the value of equity exposure) of your portfolio in a crisis. If bonds rally as they normally do, you will do better than a 30% loss. Of course, patient investors can recover the full value of the portfolio and even get solid returns despite a major loss.
Diversify your equity by geography, style, and size
Most investors understand about international diversification, although the severe underperformance of international stocks over the last five years is testing resolve. Don’t give up! International stocks will add value to your portfolio and reduce your chances of failing to reach your financial goals.
Style refers to stocks that are classified as growth and value. Growth stocks are markets’ stars, trading at a high price relative to earnings because earnings or revenue growth is strong. Value stocks are trading at a low price relative to earnings because the company has been struggling to meet investor expectations.
Diversifying your portfolio by size concerns the quality of small, medium, and large corporations. Many portfolios are heavily concentrated in large company stocks with very little exposure to smaller companies. Small companies have the potential for higher long-term returns, and also provide diversification.