IRA Investment Allocations
May 28, 2011
After comparing a traditional IRA and a Roth IRA and looking at investment risks I thought it would be interesting to talk about a study that looks at investment allocations inside individual retirement accounts.
The Employee Benefit Research Institute has been studying the investment choices of over 11 million IRA investors and recently released some interesting findings about how people are using the accounts and investing their money.
Types of IRAs
In the comparison of the traditional IRA and Roth IRA I pointed out the benefits of both because the best IRA choice for you really depends on your personal situation. Based on the survey, more people are still opting for the traditional IRA – 67% of the investors had their money in a regular IRA. Part of the reason is that almost half of those people brought their money into the account from a tax-qualified plan using a rollover IRA. You may fit into this category, if you left a job and wanted to take your 401k along – you had the option of rolling your money into one of these IRAs.
If you’ve chosen the Roth IRA option, you’re definitely not alone. It was the second most popular type, with just over 23% of the investors in the study going the Roth route. The remainder of the people had their money in either a SEP (Simplified Employer Pension) or SIMPLE (Savings Incentive Match Plan for Employees) IRA.
If you do have a Roth I’d guess that as an investment you see it as more a place to invest for growth rather than capital preservation, am I right? The study found that of the people using a Roth, a majority of them were more likely to have their money in equity mutual funds or stocks rather than bonds, money markets, or balanced funds. Let’s look some more at how people are investing their money in their IRA.
IRA Investor Allocations
I imagine you’re familiar with the concept of asset allocation, if not we’ll be covering it in the next week or so. Basically, it’s the approach of putting your money into various types of investments so that if one asset type does poorly all your money won’t be hit by its performance.
The study broke down the type of assets that people hold in their IRAs:
- 38.5% Equities (equity mutual funds, directly held individual stocks)
- 22.3% Money (money market mutual funds, money market savings accounts, & CDs)
- 13.6% Bonds (bond mutual funds, directly held bonds)
- 12.1% Balanced Funds (balanced, lifestyle/lifecycle, target-date funds)
- 13.6 Other Assets (stable value funds, real estate, fixed & variable annuities, etc)
If you have an IRA how does this breakdown compare to your investments? Not to say that you should use these allocations, it’s just interesting to see how you compare with lost of other investors.
IRA Risk & Age
As you get closer to depending on your investments for income during retirement, it makes sense to adjust your asset allocation to focus more on protecting your money and less on growing it. That’s a common piece of financial advice and it seems many people are taking it into account. According to the study, investors who are over 45 are more likely to have their money in bonds and the “other assets” category.
In contrast, if you have a long time frame until you need the money in your retirement account then it’s smart to focus on growing those funds. If you won’t retire for 30 years and put your money into a money market fund then inflation over the coming decades will really eat into the purchasing power of your retirement money. Based on the study, younger investors have listened to this piece of advice. People under 45 are much more likely to have equities and balanced funds in their IRA than those over 45.
However, there are some younger investors who perhaps aren’t comfortable putting their money at higher risk by investing for growth. About 20% of those under 35 have the majority of their investments in the money asset.
IRA Balances & Risk
It may be that the more you have to lose, the more fearful you are of losing it. The IRA study found that the higher the balance of an account, the lower the percentage of higher risk equities it held. For example, IRA accounts that had balances about 10 times larger had almost 13% less of their money invested in equities.
The accounts with the most money invested (over $250K) were the most diversified and had the highest percentage of cash in bonds, money, and “other assets” categories. They also noticed a difference between rollover IRAs and Roth IRAs. A traditional IRA that had been rolled over from a retirement savings plan typically represented money that a person had been saving for a longer period of time. Since the rollover IRA is usually a much bigger piece of a person’s retirement plan than a Roth, the study found the assets in a rollover IRA to be allocated in a more risk averse manner.
IRA Allocations
As I mentioned earlier, the point isn’t to suggest that your IRA investments should match those found in the EBRI study. What I really wanted to do is to get you thinking about how your money is allocated in your IRA based on what stage you are in life. Or if you don’t have an IRA, these are a few things to consider when you open one someday and are setting up your investment choices.
All posts by Ben Edwards
While this up front deductibility is very valuable, many workers feared that if taxes increased in the future the value of that immediate tax deduction would be negated by higher taxes in retirement. Since the money coming out of a Self Directed IRA is taxable as ordinary income, many workers, and many politicians, feared that the attractiveness of the IRA would fade over time. It was out of that concern that the Roth IRA was born.