Planning for retirement is one of those tasks that leaves a lot of people dazed and confused when discussing all of the options and philosophies on saving, how much to save, and the best way in which to save; especially if you are on the more timid side when it comes to the stock market. If you fall into this category, diversification is for you. Here are a few tips to get your diversification process started.
Understand your Timeline
Knowing how to diversify means understanding what your money needs over the next few years will be. If you have large expenses, such as a wedding, college, a planned vacation, or home renovations, then you will want that money to be placed into a safe interest earning account to avoid the volatility of the stock market. That way this cash portion of your investment is still making money for you until you are ready to use it.
For any funds that are not dedicated to an expense that you will be paying in the next couple of years, you will want to invest these funds into a higher yield investment option using a method that meets your individual tolerance levels.
Investing for the Long-Term
The closer to retirement you are, the less likely you are to want to take extreme risks with your retirement funds. However, if you are still twenty or thirty years away from retirement you will want to invest for the long-term. This means investing in stocks and bonds that meet your risk tolerance level when the price is low and holding onto these quality stocks even when the market begins to dip down.
In general, stocks typically rebound at a much higher rate than they fall. So, by holding on to your slumping stocks and bonds you should see a substantial return on your investment when the market rebounds that will more than cover the initial losses.
Diversification Rule of Thumb
Understanding how to invest in a global market takes patients, research, and a good understanding of what is happening in the world. At this time the rule of thumb for diversifying your investments in this global market is, to invest three-quarters of your stock allocation in U.S. stocks and the other quarter in international stocks.
Diversifying in this way protects you by allowing for international fluctuations, but not so much that a foreign investment would completely decimate your investments should there be an unpredictable downward international market influence.
Within these two diversifications, you will want to split your investments into equal thirds allocating these thirds so that they are invested in large cap stocks, mid cap stocks, and small cap stocks. Splitting your investment capital in this manner allows you to roll with market changes maximizing earnings while minimizing losses if a specific market group is hit especially hard.
Understanding how to save for retirement is all about knowing your individual situation, tolerance factors, and diversifying your investments to account for these factors. If you do so, you should be able to whether any market changes without losing too much sleep in the process.