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Want to set up your retirement accounts, but don't know where to start?

One of the most effective ways to reach your goals is make sure your accounts are properly allocated.

What's Asset Allocation?

The main idea behind proper asset allocation is maximizing your portfolio's return while minimizing your risk.

While maximizing returns seems clear, risk is subjective and differs person to person.

Everyone has their own risk tolerance based on a variety of factors, so you’ll see different investors choose different investment vehicles even if they are the same age.

A benefit of having the proper asset allocation is to fit your goals. Usually investors seek aggressive growth in the long term and shift to more stability of their money in the short term (i.e. for people retiring soon).

Looking at Target Mutual Funds

To give you an idea of possible asset allocations, I use Vanguard's guidelines for their target mutual funds.

Vanguard has earned a reputation for good performance and customer service and I know several people in my family who enjoy investing with them.

These guidelines are just rules of thumbs, not to be used as a definitive answer to your investing needs.

I'm not going to list all of the funds, just a few to give you an idea of how your portfolio should shift as you age.

With stock and bonds listed in the examples below, I would suggest looking at index funds to reduce costs instead of hunting of individual stocks and bonds to put your money in.

If you're more aggressive, you may want to include some specific stocks that pay a dividend in your portfolio.

What is a dividend?

It's money a corporation pays shareholders after taxes. In addition to having your stock increase in value you also can receive additional payments.

You can decide what you want to do with that money.

Asset Allocation (Ages 18- 22)

Retirement is usually in the back of many people's mind as they are just starting off their careers.

However, investing early can have a tremendous impact on your portfolio and you can use compound interest in your favor.

Here's Vanguard's 2055 fund‘s breakdown:

  • 90% Stocks
  • 10% Bonds

Asset Allocation (Ages 28-32)

As one becomes more established in their careers it would be a great time to ratchet up contribution amounts as they receive raises.

For instance if you started with a 3% or 5% contribution, could you raise it up to 5% or 10%?

Hopefully you won't notice a bigger chunk going towards retirement because it's automatically deducted from your higher salary.

Here's Vanguard's 2045 fund‘s breakdown:

  • 89.67% Stocks
  • 10.15% Bonds
  • 0.18% Short Term Reserves

You still have decades before you retire, so don't jump into conservative investments like bonds quite yet.

Asset Allocation (Ages 38-42)

If you haven't eliminated your non-mortgage debt, you could be hurting your retirement funding.

Your monthly budget could be squeezed and you may be tempted to put off increasing your contributions.

If so, get on a debt reduction plan like the Total Money Makeover or do your own debt snowball.

If you're in a sound financial state and either have only have mortgage debt or no debt, then consider maximizing your annual contributions to take advantage of employer matches and tax breaks.

Here's Vanguard's 2035 fund‘s breakdown:

  • 88.68% Stocks
  • 11.22% Bonds
  • 0.10% Short Term Reserves

Asset Allocation (Ages 48-52)

Hopefully by this time you've become accustom to contributing 10-15% of your monthly income for your upcoming retirement.

If not, now is the time to get serious about your monthly budget and including enough to set aside for your upcoming retirement.

Here's Vanguard's 2025 fund‘s breakdown:

  • 73.60% Stocks
  • 26.29% Bonds
  • 0.11% Short Term Reserves

My Own IRA's Asset Allocation Model

In case you're curious, I'll share my own IRA plans for asset allocation. I based mine on David Swensen’s model. Swensen has had a long track record of solid returns at Yale. The general asset allocation Swensen recommends includes:

  • Domestic Equity (30 percent)
  • Real Estate Investment Trusts (20 percent)
  • Foreign Developed Equity (15 percent)
  • U.S. Treasury Notes and Bonds (15 percent)
  • Emerging Market Equity (5 percent)
  • U.S. Treasury Inflation-Protection Securities (TIPS) (15 percent)

Since I have decades before I expect to draw money from this account, I don't really have much in the way of bonds and the more conservative investments. (Clarification due to reader comment – I'm working toward the Swensen model, but currently have more invested in foreign developed equity and emerging markets than Swensen suggested. As I continue with contribution I'll add more conservative investments. )

I use a combination of index funds and exchange traded funds. If you're looking at this model for yourself, Get Rich Slowly has some index funds and ETFs that you can build with.

Asset Allocation Based on Age for Retirement

How are preparing your retirement fund in terms of asset allocation? Is there a particular model that you're following? What have been your returns over the past 5, 10, or 20 years?

Remember these are only guidelines and you may decide to invest more aggressively or conservatively based on different factors, including your own risk tolerance. I'm not a financial professional, so if you’re looking for a professional trained to help with your finances and you live in the United States, try using The National Association of Personal Financial Advisors (NAPFA) to find a fee based financial planner.  They should be able to work with you and your individual financial situation.
Personal Capital Review

Photo Credit: Tomitheos

About Elle Martinez

Elle Martinez helps families at Couple Money achieve financial freedom by sharing tips for reducing debt, increase income, and building net worth. Learn how to live on one income and have fun with the second..

16 comments add your comment

  1. You don’t have much in the way of bonds, but you’re definitely on the conservative bend of the risk curve. TIPS, T-Notes, T-Bonds, and REITs are all fixed-income investments. With the exception of T-Bonds (and REITS, depending on their internal leverage), most of your fixed-income assets are shielded from basic convexity.

    I’m surprised to see such a conservative approach.

    I’m mostly in emerging markets, domestic equity, and small cap value (domestic) funds. Long-term bond holdings have been sliced to practically nil in my portfolio (locking in profits achieved from a dip in rates) and unlevered REITs with as little commercial exposure as possible are the closest I really get to fixed income. Granted, I enjoy risk and still have nearly forty years until I can legally access these funds without penalty so a rollercoaster ride won’t shake me much.

    • Sorry, JT. I should clarify it a bit more.

      I’m working toward the Swensen model, but currently do have more invested in foreign developed equity and emerging markets than treasury notes and bonds. As I continue with contributions I’ll add more conservative investments.

      I contribute to my IRA monthly and after accumulating a certain amount, I purchase an index fund (waiting until I have a minimum amount).

      Overall you’re right – I’m a bit more conservative than many people my age with my investments.

  2. Asset allocation can be boiled down to a homogeneous process for young people because most have lots of human capital (years of work ahead) and little capital in their accounts (no money). It’s not so simple for people who are approaching retirement or in retirement.

    As we age, some people accumulate more wealth than others. Some people have greater spending needs than others. Some people retire earlier than others, and some people never retire. Accordingly, the range of sensible asset allocation policies is directly related to age in that the older you get, the more your asset allocation is LESS likely to be correct using a homogeneously derived formula. There’s a lot more thought that needs to go into it.

    On a side note, the NAPFA link in the article will only recommend advisors that pay fees to that orginization. There are many terrific advisors who don’t pay NAPFA and will not be on the list.

    Richard Ferri, CFA
    Founder, Portfolio Solutions, LLC
    Author: All About Asset Allocation [2nd ed. McGraw-Hill, 2010] and several other books on personal investing.