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Conventional wisdom on investment risk overlooks a range of other relevant factors and can lead to sub-optimal outcomes.Dynamic Graphics

You may have heard the conventional wisdom that suggests investment risk should be dialled down as an investor gets older. According to this thinking, the rule of thumb is to subtract age from 100 to get the percentage of stocks that should be in a portfolio – with the remainder to be put into bonds or cash. So a 30-year-old person should have 70 per cent in stocks and 30 per cent in bonds or cash. But this approach overlooks a range of other relevant factors and can lead to sub-optimal outcomes.

"Unless you have allowed the proponents of [the age rule] to subtract 100 from your IQ, you should be able to tell something is wrong here," notes Jason Zweig, a personal-finance columnist for The Wall Street Journal . "Why should your age determine how much risk you should take?"

Consider an 80-year-old with $4-million and a modest lifestyle. She has plenty of income and few worries about outliving her funds. Given her children and grandchildren will likely inherit her wealth, it may be better to adopt their time horizon and keep a high portion of money in stocks. Similarly for seniors whose living expenses are covered by annuity or pension income – it would appear that their investment portfolios need not be mostly in income-bearing securities.

As for young adults, the age rule doesn't seem realistic when they have major expenses such as weddings, cars, housing, and raising children. If a 25-year-old has 75 per cent of his savings in stocks and the market crashes, she may not be able to proceed with her spending plans. High-interest savings accounts are better places to keep money needed for the major expenses of early adulthood.

Even for young adults who are well off and in a position to follow the age rule, a case could be made that they shouldn't. As William Bernstein writes in The Investor's Manifesto, "If you've never been tested before, I strongly urge that you encounter your first bear market conservatively invested." That is, it may be better for rookies to start off with a relatively small stock allocation to get used to the volatility. Once they've been through a bear market and seen their stocks recover (become more seasoned), then it becomes easier to stick with a high allocation.

Someone with a secure job (e.g. teacher, public servant) contributing to a defined-benefit pension doesn't appear to have much need for bonds in their portfolio. Conversely, if someone is on commission or has a job that is sensitive to economic cycles, their portfolio should perhaps have a bond allocation greater than what their age would suggest.

Not to be overlooked, either, is the fact that aversion to losses varies across people. Some people may be in a position to take risks but they just don't respond well to fluctuations in stocks. The late Paul Samuelson, a professor at the Massachusetts Institute of Technology, often pointed out that a key metric for investing is sleeping well at night.

The investor's family situation is another consideration. Inheritances, children's university tuitions and the need to support elderly parents may be grounds for departing from the age rule. Furthermore, a married person should also consider their spouse's risk preferences and capacity when managing an investment portfolio. As Mr. Zweig quips in The Little Book of Safe Money, "Men should make a special point of having their wives review any choices the husbands regard as a sure thing."

In short, there are other variables to consider in addition to age when choosing an asset allocation. Each investor has to examine their particular situation, not blindly follow a rule of thumb.

Larry MacDonald is a retired economist who manages his own portfolio and writes on investing topics. He tweets at @Larry_MacDonald

READERS: What factors, beyond age, impact your investment strategy?

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