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By Jason Stipp and Christine Benz | 01-22-2015 05:00 PM

3 Risks That Might Be Lurking in Your Portfolio

Investors should keep an eye on valuations and gauge their portfolios' vulnerability to inflation and rising interest rates when rebalancing, says Morningstar's Christine Benz.

Note: This video is part of Morningstar's January 2015 5-Point Retirement Portfolio Checkup special report.

Jason Stipp: I'm Jason Stipp for Morningstar. As part of Morningstar.com's [5-Point] Retirement Portfolio Checkup week, we're helping investors assess their asset allocations, their individual positions, and also size up some of the risks that might be lurking in their portfolios. And with stock and bond markets both performing well over the past five years, there could be some of those risks lurking. Here to talk about that is Morningstar's Christine Benz, our director of personal finance.

Christine, thanks for being here.

Christine Benz: Jason, great to be here.

Stipp: It's almost counterintuitive that when markets are doing well, risks start to get baked into them. But that is the case, especially when it comes to valuation, and you say valuations are one of the first risks that you really want to size up in your portfolio right now.

Benz: That's right. You can look at valuation on sort of a macro level. When we look at the typical company that our analysts cover, the price/fair value is 1.03. Not egregiously expensive, but by other measures, stocks do appear somewhat expensive. The Shiller P/E, which is a cyclically adjusted price/earnings ratio, historically has been in the neighborhood of 16. Right now, it's 27. A lot of people who are valuation-conscious have been pointing to that as a potential red flag for equity valuations. But I do think it's a great time to step back. Just from a common-sense standpoint, we probably will see some reversion to the mean. We've been through a period where equities have performed very, very well for a long period of time. We are starting to see some volatility here in 2015's early innings. I think it's only reasonable to expect that we will see more volatility ahead.

When we do have those periodic market shakeouts, they tend to affect the most highly priced pockets of the market the most. So, those are the things that go down the most. I think that that pattern will probably persist in the years ahead.

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