How to Navigate the 3 Phases of Your Financial Life

by | Jun 16, 2020

Your financial goals and priorities certainly change throughout your life. These changes result from many factors and are common. In fact, you will experience three distinct phases in your financial life (accumulation, preservation, and distribution). To avoid major missteps, you’ll need to know how to navigate these three phrases of your financial life.

The Accumulation Phase

As it states in the name, the accumulation phase is about growth. Growth comes from both saving and investing. Automating your contributions will help encourage consistency. If you want to take it one step further, automate increases on your savings rate as well.

However, saving is only half the battle. Younger investors will likely need the help of a powerful phenomenon known as compound interest to reach their financial goals. To get a higher return, it’s necessary to accept more risk, which might mean investing a higher percentage of your portfolio in stocks or stock mutual funds. Being too conservative could hinder growth and push you off track.

Another key to a successful accumulation phase is taking care of your short-term goals and risks. Too often, people are so excited to invest and get started, but they have no emergency fund. Or, they might be expected to purchase a home soon and do not have enough money saved for a down payment.

I understand that putting more money in a boring savings account might not be very exciting, but building a safe and accessible emergency fund is one of the first things you should do before investing. Making sure you eliminate high-interest debt and obtain the proper amount of life and health insurance coverage is also crucial.

If you are successful in the accumulation phase, you will provide a solid foundation from which to build toward your financial goals.

The Preservation Phase

In my experience, I’ve witnessed much confusion about the preservation phase. What age does it start? How long does it last and how should you be invested during that time?

In my view, the preservation phase does not start at a specific age but should start as you get within a certain proximity of taking withdrawals from your portfolio. While there are varying opinions on what that proximity should be, I believe 10 years is a good time frame to use.

In other words, I don’t believe your investment strategy needs to change whatsoever until you are within 10 years of your first expected withdrawal. Therefore, the start of your preservation phase will be different for everyone. Some may enter the preservation phase at age 55, while others may enter at age 62.

Preservation Phase Differences

The biggest difference between the preservation phase and the accumulation phase is that in the preservation phase, you must start to use investments that are designed to generate income or are designed for shorter time horizons.

Stocks, for example, are typically better suited for longer time horizons because of their inherent volatility. Therefore, if you expect to need access to a portion of your portfolio in a short-term or mid-term time frame, it would be wise to avoid investing in stocks with that portion of your money.

It is typical to see investors shift their portfolios to become more conservative during the preservation phase, but the same solution doesn’t work for everyone. You should evaluate your allocation regularly and make shifts gradually.

Investors with outside income sources may require more slight allocation adjustments. Those that will heavily rely on portfolio withdrawals may want to consider more drastic allocation adjustments.

Overall, the preservation phase should successfully set the table for the final phase, the distribution phase.

The Distribution Phase

A key thing to understand here is that the distribution phase does not start when you begin taking withdrawals but should actually start one year before you begin taking withdrawals.

Using the same concept as mentioned above, you’ll want to rethink your strategy for any withdrawals that will take place within 12 months. At that time, you may want to reallocate the portion of your portfolio that you expect to withdraw into even safer, less volatile investments.

Even if you don’t plan on taking distributions for you, your money will still be distributed in the distribution phase, perhaps just to your beneficiaries. In that case, you could even consider their investment time horizon when making your own allocation decisions.

Bottom Line

The point here is that your financial circumstances change over time and the decisions you make with your money should reflect the phase of life you are in. Anticipating when you might need to access money from your portfolio is incredibly helpful, and knowing that usually starts with creating a financial plan. I always recommend speaking to a qualified investment professional before making any personal investment decisions, preferably a CERTIFIED FINANCIAL PLANNER™ professional.

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