2 Things You Have To Do With Your Retirement Investments

Flickr / archeon.

There are plenty of things you have to do in order to save and invest effectively for retirement, from reinvesting your dividends to using your tax advantages. However, one of the simplest concepts is critically important to protecting yourself from declines while making your returns more consistent.

One of the most important adjustments you can make to your retirement strategy is to learn how to think defensively, and the best way to do this is not by investing in less risky assets like bonds, but to properly diversify and rebalance your portfolio.

A diversified portfolio means more than simply spreading your money out among a basket of stocks. You need to make sure the companies you invest in are different enough from one another to protect you from any sector weakness.

For a basic example, investing in Citigroup, Bank of America, and JPMorgan Chase does not make you diversified. Sure, you're somewhat protected if any one of these companies starts to do poorly, but what if the entire sector crashes like it did a few years ago.

And even though it may not be as obvious, watch out for companies that are linked together. For example, consider Best Buy and Intel. If computer sales began to struggle, both of these companies could suffer tremendously. It's impossible to invest in companies that are completely independent, but be aware of how your stocks are similar to one another and adjust accordingly.

Your allocations don't need to be perfectly even, but you don't want too much of your portfolio tied to any one industry.

Rebalancing: why it matters so much
It's not enough to simply diversify your portfolio, then forget about it for a while. Over time, different stocks will perform differently, and this can take your portfolio from diversified to not-so-diversified.

As an example, let's say you made five $10,000 investments a decade ago, in Apple, Pfizer, ExxonMobil, Caterpillar, and Wal-Mart. So, each made up 20% of your portfolio and you were well-diversified when you started.

Fast-forward ten years, and some of these companies have performed well and one (Apple) has been an absolute home run. As you can see from the chart below, your portfolio would have performed really well if you simply had left it alone.

The problem with this is now your portfolio is way too dependent on Apple, which would now make up more than 80% of your holdings. If Apple stock were to lose 50% of its value (hey, it's happened before), your portfolio's value would drop by more than 40%. Are you willing to risk a hit like that to your portfolio from a single stock? You shouldn't be.

Also, if the other stocks in the portfolio started to perform well, you would barely feel the effects. In our example above, even though Pfizer returned more than 40% over the past decade, it would now make up less than 3% of the portfolio, so any future gains would have a very minimal effect on your overall portfolio.

The action plan
Take a look at your own portfolio and ask yourself if your investments themselves are diverse enough. Once that's established, check if your exposure to any particular sector is too high. Especially check your best performing investments to see if they now account for a disproportionally high percentage of your portfolio. If it is, you may want to sell some shares of one investment and buy more of another in order to balance things out.

Remember, the goal of investing for retirement is to make consistent, stable returns, not to hit home runs and take risks. If one of your retirement stocks shoots through the roof, that's great, but there is nothing wrong with taking some of your gains off the table. It locks in your profits, while leaving you less susceptible to that company's future performance.

Top dividend stocks for the next decade
The smartest investors know that dividend stocks simply crush their non-dividend paying counterparts over the long term. That's beyond dispute. They also know that a well-constructed dividend portfolio creates wealth steadily, while still allowing you to sleep like a baby. Knowing how valuable such a portfolio might be, our top analysts put together a report on a group of high-yielding stocks that should be in any income investor's portfolio. To see our free report on these stocks, just click here now.

Read/Post Comments (1) | Recommend This Article (0)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 20, 2014, at 12:50 PM, TimSteve wrote:

    Very cool - you want to make sure that your retirement assets are in order and keeping your nest comfortable. Love the opportunities that SD IRA Services has to offer. A lot of great stuff.

Add your comment.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 3070489, ~/Articles/ArticleHandler.aspx, 9/3/2015 11:27:35 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...

Matthew Frankel

Matt brought his love of teaching and investing to the Fool in order to help people invest better, after several years as a math teacher. Matt specializes in writing about the best opportunities in bank stocks, real estate, and personal finance, but loves any investment at the right price. Follow me on Twitter to keep up with all of the best financial coverage!

Today's Market

updated Moments ago Sponsored by:
DOW 16,528.03 176.65 1.08%
S&P 500 1,969.71 20.85 1.07%
NASD 4,795.08 45.10 0.95%

Create My Watchlist

Go to My Watchlist

You don't seem to be following any stocks yet!

Better investing starts with a watchlist. Now you can create a personalized watchlist and get immediate access to the personalized information you need to make successful investing decisions.

Data delayed up to 5 minutes