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Investing Specialists

A Moderate Retirement Saver Portfolio

Its allocations illustrate that even 40-somethings should be mostly in stocks.

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How different should your portfolio look when you're in your 40s versus how it was positioned when you were just starting out?

Not all that different, it turns out.

Last week, I featured an accumulation portfolio for an aggressive beginning investor who expects to retire 40 years hence. Given that the Aggressive Saver mutual fund portfolio was designed to take advantage of the younger investor's ultralong runway--and his or her high tolerance for short-term volatility--it featured more than 90% in stocks, including healthy dollops of small-cap and international stocks, as well as emerging-markets equities.

This week, we're featuring a portfolio for a slightly older investor, one who intends to retire in 2035. (Assuming a retirement at age 65, our hypothetical individual would be in his or her 40s today.) But despite a 20-year age gap between the two hypothetical individuals, the Moderate portfolio, too, includes more than 80% in stocks and a still-sizable allocation to foreign names.

As with the Aggressive Saver mutual fund portfolio, I've used Morningstar's Lifetime Allocation Indexes to help set the baseline asset allocations. In this case, I used the Moderate version of the 2035 Index. To populate the portfolio, I've employed no-load actively managed mutual funds that are accepting new investments and are highly rated by our analyst team. Most of the funds earn Gold ratings, but I used Silver- and Bronze-rated funds in cases where suitable no-load Gold-rated funds were unavailable. (I'll feature a conservative portfolio next week and all-ETF portfolios starting the week of Nov. 3.)

The Portfolio, Please
The Moderate Saver portfolio consists of the following funds in the following allocations:

15%:  Primecap Odyssey Growth (POGRX)
15%:  Vanguard Dividend Growth (VDIGX)
15%:  Oakmark Fund (OAKMX)
10%:  Diamond Hill Small-Mid Cap (DHMIX)
21%:  Dodge & Cox International Stock (DODFX)
5%:  T. Rowe Price International Discovery (PRIDX)
14%:  Metropolitan West Total Return Bond (MWTRX)
5%:  Harbor Commodity Real Return (HACMX)

I stuck with the same basic basket of funds that I used with the Aggressive Saver portfolio, and the allocations aren't terribly different, either. Given that a person in his or her 40s has a 20-year time horizon until retirement, it's only reasonable that the bulk of the portfolio remains in stocks, which should enhance its return potential.

That said, there are a couple of noteworthy differences between the Aggressive and Moderate portfolios. First, the Moderate portfolio's equity allocation is a touch lower--81% versus more than 90% for the Aggressive portfolio. Much of that differential owes to the Moderate portfolio's lighter international equity allocation; the domestic-equity stakes in both portfolios are virtually identical in size. (The thinking between the lighter foreign-equity piece is outlined in this article.) However, 40-somethings with high risk tolerances--that is, those who didn't freak out and sell during the global financial crisis--could reasonably keep their all-in equity weightings as high as 90%.

I also tweaked the domestic-equity slice of the Moderate portfolio slightly, to give it a higher-quality tilt. I added a stake in Vanguard Dividend Growth, in addition to Oakmark Fund and Primecap Odyssey Growth, to give the portfolio a higher weighting in true blue chips and dividend-paying names. In addition, I reduced the portfolio's small-cap exposure via Diamond Hill Small-Mid Cap and T. Rowe Price International Discovery, albeit just slightly.

The bond piece of the Moderate portfolio is also higher than the Aggressive portfolio's. Note that Morningstar's Lifetime Allocation Index for 2035 retirees with moderate time horizons contains tiny stakes in both Treasury Inflation-Protection Securities and foreign bonds. However, the allocations are so small that it's hard to see that their effect on performance would be significant enough to make initiating new positions worthwhile. In addition, core bond fund Metropolitan West Total Return Bond often includes at least small stakes in foreign and inflation-protected bonds.

How to Use
While I expect the portfolios to perform well over time, the key goal of all of my model portfolios is to depict sound asset-allocation and portfolio-management principles. Thus, midcareer individuals can use the Moderate portfolio to help assess their portfolios' positioning.

Investors won't need to check back frequently to see if I've made any adjustments, because I'll employ a strategic (that is, long-term and hands-off) approach to asset allocation. I'll make changes to the holdings only when individual holdings encounter fundamental problems or changes.

I developed the portfolios with open architecture in mind--that is, I assumed that an investor wouldn't mind buying holdings from separate firms. But because all of the holdings shown here are mainstream in their exposures, investors who would like to stick with a single provider or supermarket could likely find funds with similar characteristics at their own firms. (Here again, Morningstar analysts' Medalist funds can come in handy.)

I also developed the portfolios without consideration for tax efficiency--that is, I assumed they would be held inside of a tax-sheltered wrapper of some kind, such as an IRA. Investors who intend to hold their portfolios inside of a taxable account would want to put a greater emphasis on tax efficiency, emphasizing index funds and ETFs on the equity side, for example.

See More Articles by Christine Benz

Christine Benz does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.