Do you know how much the value of your portfolio would drop if the market dipped by 30 or 40 percent like it did in March 2020?
Unfortunately, we don’t have a crystal ball to predict the future (that would make my job a lot easier). But what we can do is look at past declines and common retirement risks to see if there are red flags in your current portfolio.
We call this stress testing your portfolio. Being aware of potential threats and identifying issues with your plan early can help you save money – and sleep – should life throw you a curveball. Year’s end is a great time to review your portfolio.
At Scarborough Capital Management, we look at various “what if” scenarios to see what might happen if you:
- Experienced a severe stock market decline of 25 percent or more
- Paid higher taxes than you do now
- Lived until age 90
- Retired early due to illness
- Needed long-term care
- Had expensive out-of-pocket healthcare costs
- Faced higher spending costs in retirement
- The list goes on
We can then take this valuable information to fine-tune clients’ investment allocations until they strike a comfortable balance between growth and preservation.
Stress Testing Your Portfolio: 3 Factors to Review
Stress testing your portfolio allows you to adjust your asset mix, goals, and tax strategy, if necessary. When discussing your plan with a financial advisor, make sure to consider at least the following 3 factors:
1. Asset Mix
Think about your current portfolio. If the market has another bad year, what amount of decline would cause you to lose sleep at night – 10, 20, or 30 percent?
It’s tempting to want to throw all your money in equities when the stock market is at an all-time high. But it only takes one severe market decline to realize you may be carrying more risk than you thought.
Keeping your eye on your long-term goals can help you stomach any drops the market throws your way. But stress testing your portfolio will help you figure out if your current allocation needs adjusting.
It’s a delicate dance between trying to grow and preserve what you have – one that often requires the help of an experienced professional to get right.
2. Taxes
Minimizing your tax burden is another factor to consider when stress-testing your portfolio. It often starts with contributing the full allowable amounts to your retirement plans.
For 2024, the maximum contribution limit for 401(k)s, 403(b)s, most 457 plans and Thrift Savings Plans is $23,000. This limit bumps up to $30,000 if you’re at least 50. For Traditional IRAs, the maximum contribution limit is $7,000, or $8,000 if you’re at least 50.
Another piece of the tax puzzle to look at is your regular investment accounts. If you need to withdraw funds, you may be subject to capital gains taxes. One way to offset these taxes is by liquidating other investments – a process known as tax-loss harvesting. Talk to your financial advisor about strategies that could work for your specific situation.
3. Your Goals
If 2020 has taught us anything, it’s that life doesn’t always go as planned. And when life changes, your financial plan should too.
For example, what if you got married, divorced, added to your family, lost a loved one, or changed jobs? These situations often spur new goals, plans and hopes for the future. Does your financial plan reflect these changes?
Your phase in life can also change your goals.
It’s important to stress test your portfolio based on your needs. Do you need more? Less? What would happen now if you experienced another stock market decline?
As your life changes, your investment portfolio could get out of line with your preferred investment allocation. This can create more or less risk than you originally wanted to take.
How We Can Help
There’s no way to predict the future, but stress-testing your portfolio can help you prepare for some of the financial storms that may come your way. This process can also give you time now to deal with any risks that could jeopardize your chances of success later on.
For a lot of us, 2020 has changed a lot of things. It’s important to re-evaluate your plan to make sure it still works for you.
At Scarborough Capital Management, we’re committed to helping you make smarter financial decisions. Through careful risk management and honest data-driven conversations, our team strives to keep clients on track for a more secure financial future. Our team enjoys helping clients stress test their portfolios so they feel more confident about their strategies and their future.
If you think we can help you identify any missed opportunities you may be overlooking, contact us. Scarborough Capital Management is here to help, whether you’re a current client or not.
This is for informational purposes only, does not constitute as investment advice, and is not legal or tax advice. Please consult the appropriate professional regarding your individual circumstance. Scarborough Capital Management cannot verify the accuracy of, nor assume responsibility for any content of linked third-party sites. Information available on third-party sites is for informational purposes only.
