**2017 Financial Goals**

It’s no secret that we don’t believe volatility by itself is the best description of investment risk. Yet much of our industry defines risk *exclusively* as volatility. The most common investment risk statistic cited is **standard deviation**, a measure of how much a stock or portfolio return fluctuates around its average return.

Many investors would do well to tune out standard deviation talk altogether and focus on more useful ways of addressing investment risk. But to do that, you first need to have a feeling for what risk is, if it’s not standard deviation.

Let’s begin there: ** investment risk is the likelihood that your financial assets won’t be able to satisfy your financial goals**. Many factors impact risk defined this way:

- How lofty are your goals?
- Have you saved enough, or are you capable of saving enough to accumulate sufficient assets?
- What if your assets lose value at the wrong time?
- When is the wrong time for assets to lose value?

Using this basic framework, let’s compare two investors’ portfolio risks.

**Investor 1:**

Chronically under-saves, is 55 years old, and because he believes that asset price volatility is “risky” he only invests in Treasury bonds.

**Investor 2:**

40 years old, always maxes out her 401(k) deferrals and invests only in stocks because she believes they will outperform bonds in the long run, and volatility doesn’t really bother her.

**Outcomes:**

**Which of these situations involves more risk?** If we just use standard deviation as our measure, the second investor is taking on far more risk than the first: stock returns are routinely more volatile than bond returns. But common sense tells us that the first investor is going to hit a financial wall at some point – through his behaviors and investment choices he’s taking on much more risk, practically speaking.

**At Peloton, we don’t believe bonds are an essential portfolio allocation until our clients are within 5-10 years of retirement.** Younger investors won’t enjoy riding out corrections, but they can certainly afford to do so, and it’ll be better for them in the long run. Once the finish line is in sight, though, it makes sense to begin using your stock gains to build an investment in bonds. But why begin adding bonds 5-10 years before retirement? Why not start at specific ages like 55, or 60 like age-based mutual funds do?

Let’s look at two other investors to illustrate the timing of adding bonds. We’ll assume that the date is March 9, 2009, and that we’re talking to two investors who are invested in the Dow Jones Industrial Average. The index stands at 6547, having just lost 54% of its value since the October 2007 peak.

**Bond Investor 1: **

Turns 55 on March 9, 2009 and immediately invests 30% of his portfolio in bonds, reasoning that he’s now 10 years from retiring and can no longer take on as much risk.

**Bond Investor 2:**

Turns 55 on March 9, but she decides to wait 5 years to let stocks recover, before doing the same.

**Bond Investors’ Outcomes:**

On March 9, 2014 – 5 years after the bottom – both investors’ portfolios have appreciated significantly. But Investor 1’s portfolio is still below where it was in the fall of 2007. Investor 2, on the other hand, has made her money back and then some: her portfolio is actually up over 15% from the 2007 peak. Investor 2 is now in a much better position – even though she’s five years older – to begin building an allocation to bonds.

Determining the correct asset allocation for you depends on several factors, including the ones we’ve illustrated here. But it’s not a simple statistical problem. Peloton works with clients to develop custom portfolios tailored to their unique return needs, while helping them manage real risk. While there’s no magic number for 2017’s optimal asset allocation, there is a right level for you.