This moderate risk approach can work well for those in and near retirement, if you have the appropriate risk tolerance and investment objective, but volatility is still a risk. Another important factor to consider is the tax consequences of owning a balanced fund. The fund will release capital gains distributions at year-end, and this may negatively impact your tax strategy if funds are held outside of a tax-qualified retirement plan. Owning individual ETFs or stocks in the appropriate balance with fixed income securities could avoid these taxable events, especially if they’re not in a retirement account. If you are considering a balanced fund for your retirement, here are some benefits and disadvantages for you to think about as you plan your later years.
Some Advantages of Balanced Funds for Retirement
Rather than having to select stock or bond funds yourself, you can own one fund in which fund managers choose the underlying investments for you. The bond and stock portions will each be diversified by purchasing many different types of fund-specified investments. This method of diversification is a low-cost way to diversify your money and reduces much of the risk of picking the wrong investments. The mutual fund management team is responsible for researching and selecting the investments inside a fund. They also do all the day-to-day monitoring and investment adjustments. This reduces the amount of research you have to do and keeps you from dedicating time to become an expert on stock and bond investing. Balanced funds are beneficial when you have smaller amounts to invest, or if you don’t understand investing very well and don’t wish to hire a financial advisor. The fee charged for managing a mutual fund is called the “expense ratio” and reflects the amount you pay per a certain amount invested. You’ll never see the expense as it is taken right out of the total mutual fund value. Before investing in a fund, you should learn how mutual fund expenses work and choose funds with lower than average fees. In retirement a balanced fund allows you to take systematic withdrawals while maintaining an appropriate asset allocation easily. This approach may work well for those who have one account to draw from, such as $100,000 in an IRA where they want to take out $400 a month.
Some Disadvantages of Balanced Funds
Sometimes the fees in a balanced fund will be a bit higher than if you choose individual index funds (funds based on an index, such as the Standard & Poor’s 500 index) because the fund management team is doing the work of selecting the underlying mix of stocks and bonds and changing it as needed. Within the balanced fund, you are not able to choose how much is in which portion; the fund managers will determine if there are international stocks, small market-capacity (small-cap) stocks, large-cap stocks, or government, corporate or high yield bonds. The whole purpose of purchasing shares of a managed balanced fund is that someone else is making those asset class choices for you.
Managing the Size of Your Portfolio
As your portfolio size grows larger during the accumulation phase (the phase where you are contributing to and growing your assets), it might make sense to start to use some of the money from the funds to invest across numerous different types of accounts. Common financial guidance is to have the stock percentage of your portfolio match the number 100 minus your age (known as the 100 minus your age rule). According to this rule, if you are 50 years old, you should have 50% of your assets in stocks. In this manner, you transfer your assets out of stocks as you get older, making sure that a growing percentage of your investments have less risk while keeping the rest in money-earning investments. In the distribution phase (in which you are generally retired and accessing the money in the account), if you have a larger portfolio size and numerous types of accounts, you may want to use a bond ladder so that the bond portion of your portfolio lines up in each account with the number of withdrawals you will need from that account. You will not be able to do this with a balanced fund, so you might need to roll the account into an investment with more liquidity when you begin to consider retiring.
