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By Jason Stipp and Christine Benz | 10-02-2014 04:00 PM

What Should Your Portfolio Look Like in Retirement?

Your cash flow needs can help you triangulate a sensible asset mix in retirement, says Morningstar director of personal finance Christine Benz.

Note: This video is part of Morningstar's October 2014 5 Keys to Retirement Investing special report.

Jason Stipp: I'm Jason Stipp for Morningstar. After spending years accumulating assets for retirement, newly retired investors may wonder, "What is my asset allocation supposed to look like now?" Here to offer some tips is Morningstar's Christine Benz, our director of personal finance. Christine, thanks for joining me.

Christine Benz: Jason, it's great to be here.

Stipp: I think there is a natural inclination for retirees when they approach retirement or they reach retirement age to want to batten down the hatches and become very conservative in their portfolios. But you say there are lots of virtues to maintaining a diversified portfolio in retirement.

Benz: Absolutely. And one of the reasons that I would urge retirees to be diversified and, certainly, to think about having stocks in their portfolio is when you think about that very safe portfolio that consists mainly of cash and bonds, for example, you're looking at a pretty low return, looking at starting yields today. Cash, you're lucky to earn 1%; you're not going to earn 1% today; bonds, maybe yields on some sort of a high-quality bond portfolio would be in the neighborhood of 2% to 3%. You're not even preserving purchasing power with that sort of return potential. Once you've got inflation factored in, you may even be in the red over your holding period. So, you absolutely need that higher return potential that comes along with stocks even though it's also accompanied by more volatility.

Stipp: On the flip side, you talk about how yields are so low right now, and there have been concerns for many years about bonds. But investors in retirement still need bonds in their portfolio.

Benz: They do. A lot of investors hate bonds today. They are very worried about what rising rates could mean for their bond portfolios. But I think the thing that retirees need to focus on is the fact that bonds will be that stabilizer in an equity-market downturn. We haven't had one for so long that my sense is that maybe some folks have become a little bit complacent about equity-market risk; but the potential for equity-market shocks is very much there and, in fact, we've seen some volatility recently.

So, you're looking for your bond piece of your portfolio maybe not to be a return engine so much but to be that piece of your portfolio that holds its ground in an equity-market downturn. And it's also important to think about the composition of that bond portfolio. We've seen a lot of interest in some of the higher-yielding, more credit-sensitive bond types. High yield maybe has been seeing a little bit of withdrawals recently, but generally there has been strong interest there because the yields are better--bank-loan, emerging-markets bonds, some categories like that. The risk of not having just that high-quality, very vanilla U.S.-bond exposure is that you will not have that same shock absorber in an equity-market downturn.

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