Why retirees shouldn't abandon stocks

[UNITED STATES] As retirement draws near, many people naturally gravitate toward more conservative investments, such as bonds or cash, to preserve their wealth. While this strategy may seem like a safe bet, financial experts caution that fully exiting the stock market could have detrimental long-term effects for retirees. In fact, maintaining a portion of stocks in a retirement portfolio may be one of the best ways to secure financial stability in the face of inflation, rising costs of living, and longevity risks.

The Case for Stocks in Retirement

The primary argument for keeping stocks in a retirement portfolio lies in the potential for growth. Unlike bonds or cash, which generally offer fixed or minimal returns, stocks have historically outpaced inflation and provided significant capital appreciation. Retirees, especially those who may live for several decades, need their portfolios to grow over time to cover future expenses. Without exposure to equities, a portfolio may struggle to keep up with inflation, which erodes purchasing power over time.

Recent market trends have shown that equities remain a robust asset class, even amid periods of volatility. While 2023 saw fluctuations in global markets due to factors like rising interest rates and geopolitical tensions, many stock indices—including the S&P 500—still posted significant gains over the long term. This performance underscores the potential for stocks to recover after downturns, making them an appealing choice for retirees who may need a longer investment horizon.

Inflation: A Silent Threat

One of the most compelling reasons retirees should retain some stock exposure is the growing threat of inflation. In recent years, inflation has been more volatile, putting a strain on fixed-income investments like bonds. While bonds can provide a steady income stream, their yields often fail to outpace inflation, particularly in low-interest-rate environments.

Stocks, on the other hand, have historically been an effective hedge against inflation. Companies tend to raise prices to match the cost of goods, which means stock values generally increase as well. A retiree with a portfolio that includes stocks may find it easier to maintain their lifestyle over time, despite the rising costs of goods and services.

Experts argue that focusing on dividend-paying stocks can provide a steady stream of income for retirees while still offering the growth potential of equities. Many large-cap stocks offer attractive dividends, which can help supplement retirement income and protect against inflationary pressures. These dividends can be reinvested or used as income, depending on the retiree's needs.

Longevity Risk and Market Volatility

Another significant factor for retirees is the increasing risk of outliving their savings. With average life expectancies rising, many retirees are living 20, 30, or even 40 years after they leave the workforce. In such a scenario, a purely conservative investment strategy could fall short.

Stocks can play a critical role in mitigating this “longevity risk” by providing growth potential over the long term. Though stock markets can be volatile in the short term, they have shown to provide positive returns over extended periods. This long-term growth can help ensure retirees have the necessary income to cover their needs throughout their retirement.

With many retirees now living into their 80s and beyond, financial advisors increasingly recommend strategies that account for an extended retirement period. These strategies often include adjusting asset allocations to balance the need for growth with the need for income. Additionally, the use of annuities—financial products designed to provide guaranteed income streams—can help retirees ensure they don't outlive their savings, complementing the growth potential of stocks.

It's important to note that holding stocks in retirement doesn't mean abandoning a conservative approach to investing. Rather, retirees should focus on diversification—a strategy that blends a mix of stocks, bonds, and cash in a portfolio. This helps to reduce risk while still benefiting from the growth potential of equities.

Experts recommend adjusting the stock-bond mix based on an individual's risk tolerance and time horizon. For instance, someone who is retiring in the next five years may want to hold fewer stocks, while a retiree in their 60s or 70s with a longer life expectancy may benefit from having more equities in their portfolio.

Additionally, the rise of exchange-traded funds (ETFs) and mutual funds makes it easier for retirees to access diversified portfolios with minimal effort. These funds pool investments from many individuals, giving retirees exposure to a wide range of assets and industries.

Furthermore, the ongoing development of "target-date funds" has simplified retirement planning for many individuals. These funds automatically adjust the mix of stocks, bonds, and other assets as the investor approaches retirement age. For retirees who want a more hands-off approach to investing, target-date funds offer a practical solution that balances risk and reward throughout retirement.

While the idea of reducing exposure to the stock market may seem appealing to retirees seeking safety and stability, doing so entirely could come at a significant cost. A diversified portfolio that includes stocks is essential for ensuring long-term financial security, preserving purchasing power, and mitigating longevity risks. By striking the right balance between stocks, bonds, and other assets, retirees can enjoy a secure retirement without sacrificing growth potential.