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Trading Lessons

Don't Let 'The Glidepath Illusion' Ruin Your Retirement

Personal_Finance / Pensions & Retirement Aug 29, 2015 - 07:41 AM GMT

By: DailyWealth

Personal_Finance

Dan Ferris writes: The traditional notion of retirement says you should take bigger risks in the stock market when you're young.

You have more time to make up for losses than when you're older. As you age, you should take less and less risk, so you won't lose your retirement money... so the conventional wisdom goes.


This well-worn strategy is called "Glidepath investing." And it could ruin your retirement.

Let me explain...

The emotional appeal of Glidepath investing is obvious. Young people feel like they're going to live forever, so it feels better to them to take more risks. Buying more risky stocks and fewer safe bonds feels right.

Older people feel they have more to lose and might not be able to support themselves one day, so they tend to be more risk averse. For them, buying fewer stocks and more bonds feels safer.

There's an army of financial planners and other "helpers" out there selling products designed to get you to retirement with a big, safe nest egg, based on this feel-good notion.

However, research suggests that what feels good isn't necessarily what you should do...

Investor and researcher Rob Arnott of Research Affiliates published a report in September 2012 called, "The Glidepath Illusion." Arnott's research suggests Glidepath investing will make you less money by leading you to put less money in higher-return investments (stocks).

Arnott studied 141 years of stock and bond returns from 1871 to 2011. From these data, he hypothesized a range of possible outcomes. In general, Arnott found evidence that the range of outcomes from doing the opposite of Glidepath investing was superior to the range of Glidepath-based outcomes.

It's well documented that stocks outperform bonds over the long term. Glidepath investors wind up putting a bigger percentage of their assets in stocks when they're younger and have less to invest. They put a higher percentage into bonds when they're older and have more to invest.

That's the basic error. Investors put fewer dollars into higher-return investments, then interrupt the compounding process to put more dollars into lower-return investments. So they make lower returns than if they had done the opposite of Glidepath investing.

Glidepath investing is a good recipe for feeling good, but a poor one for making as much money as possible in stocks and bonds. Arnott's conclusion is worth quoting and keeping close at hand as a reminder...

Investors who are prepared to save aggressively, spend cautiously, and work a few years longer (because we're living longer), will be fine. Those who do not follow this course are likely to suffer grievous disappointment... No strategy can make up for inadequate savings or premature retirement.

Save aggressively. Spend cautiously. Let your investments compound as long as possible before drawing them down. That's sound advice.

Sadly, it makes perfect sense that the financial services industry is once again doing exactly the wrong thing for clients. Don't trust financial planners and brokers. They're commissioned salespeople. They're incentivized to sell investments, NOT to make you money in stocks and bonds.

For as long as my health holds out, I'll stay productive and hopefully get well compensated for my efforts, saving aggressively and spending cautiously. I recommend you at least give the traditional notion of retirement a second thought and consider an alternative that'll leave you better off emotionally and financially.

Good investing,

Dan Ferris

http://www.dailywealth.com

The DailyWealth Investment Philosophy: In a nutshell, my investment philosophy is this: Buy things of extraordinary value at a time when nobody else wants them. Then sell when people are willing to pay any price. You see, at DailyWealth, we believe most investors take way too much risk. Our mission is to show you how to avoid risky investments, and how to avoid what the average investor is doing. I believe that you can make a lot of money – and do it safely – by simply doing the opposite of what is most popular.

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Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

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