Investment Risk and Return
Lifetime trade-offs between investment portfolio risk and investment returns
When making personal finance and retirement planning decisions, individuals must confront the dilemma that, historically, more conservative portfolio investments have yielded substantially lower investment returns than the returns that riskier investments have delivered. With either lower or higher risk-adjusted market return strategies, you simply cannot have your financial cake and you eat it too.
If you take on higher investment risk, you may be able to consume more, to save less of your earned income, and to make lower investment contributions, because the return on investment of the assets you hold is expected to be more rapid. However, future financial growth outcomes are less certain with higher investment risk strategies, and the probabilities of lifetime financial plan failure and running out of money in retirement are also higher with higher risk assets.
Conversely, if you expose yourself to less investment portfolio risk, you must plan to consume less, to save more, and to invest more. However, the future outcome is likely to be more certain. How to strike a personally appropriate balance between investment risk and return is part science and part art.
There are no easy answers, because the future is fundamentally unknowable by anyone. And, anyone means anyone. The future is unknown and uncertain to everyone. Just because someone makes a prediction does not make it so, as happens all too often with representatives the financial services industry. Too many financial professionals seem to know so much beforehand and so little after the fact.
VeriPlan can help you to determine the level of savings that you need to achieve to support your future financial requirements
The VeriPlan hypothetical investment calculator and retirement investment calculator does not predict the future in any way, shape, or form. No investment calculator can do this for you. Instead, the VeriPlan lifetime compound investment calculator allows you to explore what could happen over your lifetime within the context of your present financial situation and future financial planning goals. VeriPlan’s sophisticated and fully integrated long term investment calculator functionality allows you to very quickly and easily evaluate the potential viability of your lifetime financial plan using more or less risky investment strategies.
The VeriPlan financial investment calculator allows you to test the investment risk and return tradeoffs between various asset allocation strategies. By experimenting with its various investment and asset related settings, VeriPlan provides a coherent lifetime projection all your financial affairs. Using very long-term historical asset class growth rates, VeriPlan’s risk-adjustable future value investment calculator can demonstrate that a conservative asset allocation strategy focused on cash and bond assets and modeling your particular financial affairs would tend to grow more slowly than an asset allocation more heavily weighted toward stocks or equities.
Your long-term success with such a more conservative asset allocation strategy would depend far more upon continued higher rates of saving rather than on higher returns on your investment portfolio. Therefore, a conservative asset allocation requires greater personal financial planning discipline to sustain year-after-year and decade-after-decade. Conversely, stock or equity heavy asset allocation strategies rely more upon capital appreciation or the growth in the future value of your assets. These riskier investment strategies would still require significant savings — just at lower rates than more conservative asset allocation strategies. Yet, whether these investment returns will actually materialize are less certain, and so is your lifetime financial plan.
VeriPlan can help you to determine the level of savings that you need to achieve to support your future financial requirements. VeriPlan’s fully integrated and automated cash savings investment calculator, bond investment calculator, and stock investment calculator features can help you understand the trade-offs between the various investment strategies that are available to you.
Also, if you want to understand better how mutual funds fees and expenses affect the investment wealth and asset buffers that you may be able to build over your lifetime, VeriPlan does this for you, as well. Check out this investment book review on the lowest cost top no load mutual funds for a thorough treatment of this important direct investing topic.
VeriPlan’s cash, bond, and stock mutual fund investment calculator software automatically projects the asset buffers that you would hold on a year-by-year across your lifetime
Another way to evaluate the trade-offs between investment risk and return is to understand your family’s projected ability to meet its financial obligations using only your projected cash and bond assets. These assets tend to hold their value better during depressed economic and securities market panics. As one method to cope with the anxiety of personal financial planning, it is useful to project how large a relatively liquid asset buffer you might have over your lifetime. VeriPlan’s Portfolio Safety Tool acts as a highly sophisticated future investment calculator focused on your cash and bond investments. It can provide insights about the future value of your assets broken down by asset class.
With every projection, the VeriPlan cash, bond, and stock mutual fund investment calculator software automatically projects the asset buffers that you could hold on a year-by-year across your lifetime. In its “Safety Margin” graphic and corresponding data table, VeriPlan shows the number of months going forward that your cash and fixed income assets would cover your projected expenses, if all your income sources ceased and you had to liquidate cash and bond assets to cover these expenses. In addition, when you experiment with different settings on VeriPlan’s Asset Allocation Tool in conjunction with your settings for VeriPlan’s Portfolio Safety Tool, you can get a much better understanding of the interactions between asset class returns and the safety margin provided by these more liquid cash and bond assets.
This is an example of the lifetime investment risk and return Safety Margin graphic that VeriPlan automatically generates for all projection scenarios that you might wish to develop. Note that in this particular scenario, approximately an eight year expense coverage buffer is built up in their cash and bond assets by retirement at age 66. However, this buffer is exhausted by age 94, which indicates that projected retirement expenses would exceed retirement income sources, financial asset yield, and financial asset principal. This family would need other assets, such as positive home equity, to tap to meet expenses in during their mid to late 90’s were they to live that long.
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Lawrence J. Russell is the author of this website and the books offered through this website. He is also the architect and developer of the VeriPlan software discussed on this website. He holds a BS from M.I.T. (1975), MA from Brandeis University (1979), and MBA from Stanford University (1982). Larry is a former [...])
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