How does the algorithm set your split and what factors affect it?
There are two main drivers that determine your allocation to stocks and bonds.
1) Most importantly, the number of years you have until retirement will have the biggest impact. The earlier you are in your investing career, the more stocks you will generally have in your portfolio, which translates to greater risk. As you incrementally approach retirement, we reduce your risk by trading in stocks for bonds. This is called following a “glide path” and we adjust it for you automatically each year, to keep your risk appropriate with your age and time horizon until retirement. (If you're familiar with Target Date funds, they operate much the same way.) Here's what our glide path looks like:
2) The second factor that determines your stock/bond split is your risk tolerance. Generally, the more aggressive your risk tolerance, the greater percentage of stocks you will have in your portfolio. It's imperative to find your correct risk tolerance and stick with it during all market cycles. Investors who frequently change their risk tolerance in response to market movements end up hurting their returns. That’s why we've recently built tools to help you stick with your risk tolerance.
What role do stocks and bonds play in your portfolio?
Stocks are the primary driver of growth and have historically produced higher returns than bonds. However, stocks, as an asset class, are riskier (more volatile). Bonds, on the other hand, have historically provided lower returns than stocks over the long run, but have much more stable returns (less volatility). You can think of bonds as the “stabilizer” of your portfolio, although they too, along with any other asset class, may decline in value. As we know, more stable portfolios are easier to “stick with,” which directly translates to a greater probability of achieving your long-term goals. Additionally, when stocks drop sharply in value, bonds provide a source of money to use to buy more stocks. In essence, bonds allow you to purchase stocks cheaply, and what consumer doesn’t love a sale?!
How does the algorithm keep your stock/bond split at the appropriate mix?
The best part of this answer is, it’s automatic! Each trading day, the algorithm analyzes your portfolio and compares the optimal stock/bond split for your portfolio to your actual stock/bond split. (The two can differ due to market movements and from getting closer to retirement.) The algorithm then weighs the cost of making an adjustment (including taxes and transaction costs) against the likely benefit from making the adjustment. Maintaining your stock/bond split is one of the factors we check when rebalancing.
What are some examples of stock and bond ETFs that may be in your portfolio?
|U.S. Total Market (VTI, IVV)||U.S. Bonds (AGG, SCHZ)|
|REITs (VNQ, RWX)||Foreign Bonds (IGOV, BNDX)|
|Foreign Value (EFV, FNDF)||TIPS (STIP, STPZ)|
How can you find your stock/bond split?
- Log In to your account
- Click on “View Details” in your retirement dashboard
- Under “Smarter Investing,” expand the first best practice, which is labeled “Diversify your portfolio...”
- Click on "See details for my current portfolio vs. my recommended portfolio"
- The two donut charts appear. Notice a difference between your current and recommended allocations? This article may explain why.
Why might you notice more stocks in your taxable account, and more bonds in your tax-sheltered account such as an IRA?
Ah-ha, very astute of you! This is because bonds generate income, which is typically taxed at a higher rate than capital gains. At FutureAdvisor, we are obsessed with being smart about taxes, and therefore “shelter” your bonds (and REITs) in tax-deferred accounts whenever possible. This is known as tax-efficient asset placement and will be covered in the next email. This holistic management approach can mean better returns, fewer taxes, and smarter management. Want us to manage more accounts so that we can optimize your asset placement? Simply click “Let us manage another account” when logged in, or email us.
How does your stock/bond split affect how you benchmark your returns?
One of the most common questions we receive is about how investors should benchmark their portfolios. Are they up/down relative to “the market?” Since your portfolio has 87% stocks, it would not be appropriate to compare the returns to say the S&P 500, which is 100% stocks. If stocks are up, a portfolio of only 87% stocks will, naturally, not be up as much. Conversely, it would not be appropriate to compare your total portfolio return to just a bond index, such as the Barclays Aggregate Index. All investors want to feel as if they are at least “keeping up with the market,” but benchmarking your portfolio can be a bit more involved because it is made up of 12 asset classes. We’ll explain more on that shortly!
We hope this sheds some light on your stock/bond split and the important role it plays in your portfolio.
Disclaimer: The views expressed are for informational purposes only and are not intended to serve as a forecast, a guarantee of future results, investment recommendations or an offer to buy or sell securities by FutureAdvisor. All expressions of opinion are subject to change without notice in reaction to shifting market, economic, or political conditions. The investment strategies mentioned are not personalized to your financial circumstances or investment objectives, and differences in account size, the timing of transactions and market conditions prevailing at the time of investment may lead to different results. Clients may lose money. Past performance is not indicative of future results. Investments in securities involve the risk of loss. Any tax strategies discussed should not be interpreted as tax advice and do not represent in any manner that the tax consequences detailed will be obtained. Clients should consult with their personal tax advisors regarding the tax consequences of investing.