Pod Insights Life Kit Plus Want to protect your money? Diversify your investments About this episode When it comes to investing money, don't put all your eggs in one basket. Spread out your investments among different types of assets and sectors, so you're not overexposed if one of them takes a hit. In this episode, we'll walk you through different types of assets, how your investment strategy should change depending on your age and needs, and a simple rule of thumb to calculate your stock versus bond allocation.
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Transcript Speaker names marked ? are inferred from speaking time and the show’s known hosts — they are not voice-verified.
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0:14 Marielle Segarra? You're listening to Life Kit from NPR.
0:23 Marielle Segarra? Hey, it's Marielle. OK, I'm going to do things a little differently today. I'm going to jump right into one of our tips for diversifying your investments. It's a formula called the Rule of 120.
0:34 Speaker 02 The very simple calculation that folks can use is just take 120 minus your age.
0:41 Marielle Segarra? 120 minus your age.
0:43 Speaker 02 And that should be your stock allocation.
0:45 Marielle Segarra? By the way, this is Amanda Holden, founder of a financial literacy business called Invested Development and author of How to Be a Rich Old Lady. When she says "stock allocation," she's talking about stocks versus bonds. If that means nothing to you, sit tight. We got you. Anyway, the Rule of 120.
1:03 Speaker 02 Let's say you're 30, so minus 30 leaves 90% stocks, 10% bonds.
1:10 Marielle Segarra? 120 minus 30 leaves you with 90% stocks. And basically, this breaks down to more stocks when you're young, fewer stocks as you get older. That is just a starting point, but it is a really simple way to think about diversification, which basically just means don't put all your eggs in one basket. Sidebar, I was trying to find the origin of that phrase. Seems like it goes back to some translations of the Spanish novel Don Quijote, except Miguel Cervantes didn't actually use the words "eggs" or "basket." Regardless, for an old proverb, it makes a lot of sense. If you drop the basket and all of your eggs are in it, you could break all of your eggs at once. The same wisdom applies to investing. If you have money in the markets, in a retirement plan, or in a brokerage account, you want
1:54 Marielle Segarra? to make sure you're diversified.
1:56 Speaker 02 That you're not too concentrated in any one position.
2:02 Marielle Segarra? On this episode of Life Kit, we're going to do a deep dive on diversification. I'll talk to Amanda about different types of assets, how they tend to perform compared to stocks, how your investment mix should change depending on when you need the money, and why it's important to keep your strategy diversified, but also simple. That's after the break.
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4:08 Marielle Segarra? Amanda, one very common way to diversify is by having both stocks and bonds in your portfolio. Can you explain why?
4:17 Speaker 02 Sure. So, the most important thing to understand is what is a stock and what is a bond? If you don't understand the core unit of investing, it's really hard to know whether it's right for you. So stocks are shares of ownership in a company. Your piece of the pie may grow or not grow in concert with that company. And a lot of companies fail, right? And so therefore, we consider stocks to be riskier. On the other end of the spectrum, bonds are considered to be safer. Because what a bond is, is it is a contract with a government or with a corporation where you are essentially lending them your money. You are the bank now. And the rate of return that you earn on that bond
5:01 Speaker 02 is the interest, the stated rate of interest that they will pay you over that bond's period. And so bonds are a bit more predictable in their returns. But here's the thing, and this is the most important thing to understand about how we build our investment strategies, is that risk and return are always two sides of the same coin. If you move your portfolio in the direction of more risk, that does mean you're going to give yourself a chance at more returns. But of course, the nature of risk is that might not work out for you. And so if you pull it into the direction of more bonds or even more cash, which even sits on the other side of bonds in terms of the risk reward trade off,
5:46 Speaker 02 then what you're doing is you're providing yourself a more conservative strategy that doesn't have as much potential for returns, but there's also less downside risk.
5:59 Marielle Segarra? Takeaway one. Stocks are shares of ownership in a company, and your investment can grow or shrink as that company does. You can also buy into investment funds that are basically a basket of stocks. And that's one way of diversifying, because now you have exposure to lots of different stocks in different sectors of the economy. A bond, on the other hand, is a contract with a government or a corporation. You lend them money, and in exchange, they pay you interest. You can buy individual bonds, and you can invest in bond funds. Bonds and bond funds tend to have more predictable returns than stocks, but they can drop in value as well. Because stocks and bonds come with different levels of risk, and they often behave differently in economic downturns, it's a good idea to have some of both.
6:44 Speaker 02 Diversification is a lot like playing the field with dating, right? Like, sometimes I like to go out with Steve. Steve is bonds, right? He is a human Honda Accord. He tucks his T-shirt into his jeans. He's going to be there when you get home on a Sunday to watch the nine-part Ken Burns documentary. Whereas, you could also go on a date with Guy. Guy is the lead singer of an up and coming band. Now, this band could turn out to be the next Rolling Stones. He could also be destined to playing the sad bar circuit for life, right? Dating him is a roller coaster, but there is higher potential for returns. And so, the idea, again with diversification, is it's like playing the field.
7:28 Speaker 02 You can incorporate both of them into your strategy because sometimes Guy is better, and sometimes Steve is better. And that's the idea behind investment diversification.
7:39 Marielle Segarra? So, OK, it's kind of like being financially polyamorous.
7:42 Speaker 02 Exactly.
7:44 Marielle Segarra? So, how should this mix change, depending on your situation?
7:49 Speaker 02 Generally, it is recommended that when you're younger, you have a higher allocation to stocks. And then, as you inch towards retirement and you need more stability, right? You don't want to risk all of your money being invested in the very volatile stock market as you approach a time period where you're going to need to live off this money. Then what you can do is start to shift into a more bond and cash-heavy strategy.
8:15 Marielle Segarra? Takeaway two: Generally speaking, if you're investing for the long term, say for retirement, and you're a ways out, you can afford to take more risk and put more money in the stock market because you have time for your portfolio to rebound. And even with downturns, it is expected to grow significantly over time. As you get closer to retirement or to needing the money, you'll want to shift into safer investments. That could mean more conservative stock funds. It could also mean more bonds. And you may want to hold more of your money in cash in an FDIC-insured high-yield savings account. Here's that formula again, on how to split up your investments between stocks and bonds.
8:55 Speaker 02 The very simple calculation that folks can use is just take 120 minus your age, and that should be your stock allocation. And so 120, let's say you're 30, so minus 30 leaves 90% stocks, 10% bonds. But that's just a starting place. The best thing we can do is start there and then like, you know, take a look at how that makes you feel. Because if that feels uncomfortable to you, if that feels like, oh, that's like a lot invested in the stock market, and that doesn't make me feel right, then we need to honor that. Because this asset allocation target, the 9010, or the
9:34 Speaker 02 8020, or the 7030, it matters a little bit less than our ability to stick with that strategy, even when times get tough.
9:45 Marielle Segarra? How might you think about your mix of stocks and bonds in a non-retirement account, where you probably want to tap into the money sooner?
9:52 Speaker 02 The first step is always to ask yourself, what is my goal for this money? So for example, if you've got money in a brokerage account, and you're looking at it, and you're like, hmm, you know what I really want is I want to use this for a down payment for a house in the next five years. That tells us how we should be investing. Because what I'm hearing when I hear that is that you really need this money in the near term, and maybe you don't want to lose any of it at all. And it is just a reality of investing in the stock market that at any point you could have a negative year. And so we're asking ourselves, is that what we want? This is the reality of investing in this thing. Does that make sense for me?
10:33 Speaker 02 It might not. If that is the case, then putting your money in a high-yield savings account or a CD, it is true that you might lose a little bit of money to inflation over the next few years, but it's probably worth it to protect that money from any significant loss, knowing that short-term periods in the investment markets are a toss-up.
10:53 Marielle Segarra? Okay, so another important type of diversification you mentioned is US stocks versus international stocks. Can you tell me more about that?
11:03 Speaker 02 Sure. So I come from the world of investment management, where it is
11:09 Speaker 02 Almost always assume that any investment strategy will not be invested in only one country, and that includes the United States. And it's not even necessarily about predicting some imminent collapse, although I think that, you know, there are plenty of folks that are talking about it, and we're talking about the AI bubble right now. It is just a matter of saying, hey, it's like not really that safe ever to invest in only one country. And so in the world of investment management, you're generally always incorporating at the very least international stocks. But that isn't very trendy advice, especially online. Like if you are getting your investment education, for example, from hashtag finfluencers, you
11:54 Speaker 02 may have heard, you just got to buy an S and P 500 index fund. You just got to do that, and that's all you need, and you're good to go. And by the way, an S and P 500 index fund is buying the 500, let's just call it largest US stocks, all in one fund. It is a great start, but we are at a point where that S and P 500 index fund is getting dominated now by big tech companies. We're not predicting imminent collapse. Nobody needs to act with panic, but it is more than past time that we look at our US only strategy, which is really heavily influenced by tech stocks, and ask whether there is
12:38 Speaker 02 something we can do to become more diversified.
12:42 Marielle Segarra? Takeaway three. Another common way to diversify is by investing in companies based in other countries. There is debate over this. Some say you don't need to do it because big US multinational companies have operations in other countries, too, and because the US stock market has historically outperformed international stocks. Also, if you're investing over the long term, you have time to ride out volatility in the US. But others say there's a good reason to have international stocks in the mix. If you, for instance, only invest in an S and P 500 index fund, you're putting a big chunk of your portfolio into the US tech sector. With international funds, you'll likely get more exposure to other sectors and to economic conditions in other countries.
13:25 Marielle Segarra? Plus, you can take advantage of the growth in emerging markets. On that note, if you decide to add international company stocks to your portfolio, here's what to look for.
13:34 Speaker 02 Really, the big question that we're asking when we're shopping for an international stock market index fund is whether it includes only developed countries or its developed and emerging economies. The way that we classify stock markets within the world of investing is either as developed economies, which would be like Canada, UK, Germany, Australia, Japan. And a developed international stock market index fund would invest in the stock markets of those countries. Whereas an emerging markets stock market index fund would invest in the stock markets
14:14 Speaker 02 of countries like China, Brazil, India, and Mexico. And sometimes international stock market funds include both. And so it's really, again, just a decision of risk, right? Developed countries are expected to be a little bit safer, but may present less returns moving forward, whereas countries like China or Brazil or India have maybe a bit more growing to do, their middle classes have a bit more growing to do, and so we expect more growth out of their stock markets. But there is maybe some additional risk, especially if what we believe is that those, you know, governments may act in ways that surprise us.
14:58 Speaker 02 And so it's totally a matter of how much risk you want to take, but just something to be aware of when you're shopping for an international stock market index fund. We'll have more Life Kit after the break.
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16:04 Marielle Segarra? All right, let's talk about other kinds of diversification. One is investing in smaller stocks. What does that mean?
16:11 Speaker 02 So something that is really popular to do right now in order to stay invested in the US stock market, but maybe remove some of that exposure to these big companies that are already taking up so much of our investment strategies, is to incorporate an index fund that invests in small or midsize companies. And the way we describe that is we call them small cap or mid cap companies. Smaller stocks have long been considered riskier than bigger stocks, but some of us are starting, in light of what's happening in the world of mega cap or ultra large companies, maybe reevaluating this, right?
16:53 Speaker 02 It is true that theoretically, small stocks are riskier, but it is also true that maybe what we need to do is being exploring ways to diversify outside of a traditional S and P 500 index fund, because it is also risky to be so loaded up in one industry, the tech industry.
17:15 Marielle Segarra? Takeaway four, another way to diversify is to put some money in small and mid cap stocks. You can look for an index fund that invests in these companies. Amanda says, "We can't know for sure which kind of company is going to perform best in the future, but that's exactly why we diversify." You can also diversify by investing in real estate.
17:34 Speaker 02 If you're investing in real estate inside of one of your investment accounts, you are traditionally going to do that using what are called REITs. REIT stands for Real Estate Investment Trust. It's like investing in companies that own, for example, commercial real estate. And so each company, like each corporation for which you can buy a stock, is going to be different, and some are going to be successful and some won't. And so knowing that, it is very popular to buy something like a REIT index fund that is going to be a portfolio, a fund that holds a whole bunch of different REIT companies. And so this is a really easy way to incorporate real estate into your strategy
18:18 Speaker 02 if what you are hankering for is some additional diversification outside of the stock and bond markets. Now, what I will say is that there is not necessarily an industry consensus as to whether it is necessary to add REITs to your strategy. Part of the reason for that is because what we see is REITs do perform very similarly to the stock market. So in years like 2008 and 2022, where we have a lot of volatility, downside volatility in the markets, in the stock market, it also seems to affect the REIT markets as well. And so you might not be getting as much diversification as you think that you are.
19:00 Marielle Segarra? Takeaway five: If you want to diversify into real estate, some things to know. You can invest in a single real estate company, just like you can buy shares in one company in another sector. Often, these companies will be structured as something called a REIT, a Real Estate Investment Trust. Some of them own apartment buildings, some own office buildings or hospitals. You can also invest in a real estate or a REIT fund, and those allow you to put money into a collection of real estate companies. So they're lower risk than investing in just one. Amanda points out that if you own a home, you're already invested in the real estate sector. So that might be enough real estate diversification for you. Also, she says, "Real estate tends to perform similarly to stocks in economic downturns,
19:44 Marielle Segarra? so it's not necessarily going to buffer you during those times." One other type of asset that we're not going to go too deep on in this episode, but we do want to mention: commodities. Commodities are physical goods and raw materials like gold and silver, crude oil, wheat, corn, coffee. You can invest in these too. For instance, you can buy into a fund that tracks the price of gold. Gold in particular often performs well during economic downturns, and it can help you hedge against inflation. But it is an expensive asset to buy right now. The price has jumped by about 80% in the past year. Other commodities tend to drop during downturns. Amanda says there's no industry consensus on whether people should have commodities
20:29 Marielle Segarra? in their portfolio. But in general, she thinks one of the best things you can do is to keep your investment strategy simple.
20:36 Speaker 02 Overcomplicating your strategy introduces a lot of room to feel like you're getting it wrong and to make changes at the wrong time. And so keeping it as simple as possible is also a really great idea. One way you can do this is by using something like a target date index fund, which if what you want is a diversified strategy, all in one fund, these are these funds that have these super futuristic far-off dates like 2065 in the name of the fund. And what that is, is a fund of funds. And so it is a fund that holds probably, if it's of the index variety, which is what
21:20 Speaker 02 I would look for, it would hold a US stock market index fund, it would hold an international stock market index fund, and maybe one or two bond index funds in proportions that make sense for somebody who's going to retire in that year. That's what that year on that fund means. And so something like this, an all-in-one fund, an all-in-one diversified strategy, is also a really great idea, just because you can focus on the most important thing, which is shoveling money in. Keeping it simple and focusing on what you can control, and that is how much money you're investing.
21:59 Marielle Segarra? All right, Amanda, thank you.
22:00 Speaker 02 Thank you for having me.
22:03 Marielle Segarra? Okay, time for a recap. Takeaway one, stocks and bonds come with different levels of risk, and they tend to behave differently in economic downturns. So it's a good idea to have some of both. Takeaway two, if you're investing for the long term, you can generally afford to take more risk and put more money in the stock market, because you'll have time for your portfolio to rebound. And even given downturns, the expectation is that it will grow significantly over time. As you get closer to needing the money, though, you'll want to shift into safer investments, which could mean more conservative stock funds, more bonds, and you also might want to hold more of your money in cash in an FDIC-insured, high-yield savings account. Takeaway three: another common way to diversify
22:48 Marielle Segarra? is by investing in companies based in other countries. There is some debate over this. Some say you don't need to do it. Others say it's a good idea. Do your research and decide what feels right for your portfolio. Takeaway four: you can also diversify by investing in small and mid-cap stock funds. And this is generally considered riskier than buying into large companies, but there's more potential for growth. Takeaway five: if you want to diversify into real estate, you can invest in a single real estate company, like a REIT, and you can also invest in a real estate or a REIT fund. Amanda points out that if you own a home, you're already invested in the real estate sector, so that might be enough for you. And she says, "Real estate tends to perform similarly
23:32 Marielle Segarra? to stocks when the economy is on the downswing, so it's not necessarily going to buffer you at those times." Lastly, commodities are physical goods and raw materials like gold, like oil, like coffee. You can invest in these, too. For instance, you can buy a fund that tracks the price of gold. But Amanda says there's no industry consensus on whether or not you should do this. In general, she says, "Try to keep your portfolio diversified, but simple." One more thing before we go. Do you follow Life Kit in your podcast app? Why not go ahead and do it right now? Just tap "Follow" so you never miss an episode. This episode of Life Kit was produced by Claire Marie Schneider. Our digital editor is Malika Gharib,
24:16 Marielle Segarra? and Megan Cain is our senior supervising editor. Beth Donovan is our executive producer. Our production team also includes Andy Tagel, Margaret Serino, Sylvie Douglas, and Mika Ellison. Engineering support comes from Tiffany Vera Castro. Fact checking by Tyler Jones, Nicolette Kahn, Jane Gilvin, and Will Chase. I'm Mariel Segarra. Thanks for listening.
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