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Different Dollars, Different Time Horizons

April 16, 2020 by Brendan Mullooly

We build and consume retirement savings gradually. We gradually trade our human capital for pay. We gradually invest a portion of that pay. And, in the future, we gradually use what we accumulate to support ourselves as our human capital dwindles.

This is the life-cycle of the average retirement account, which is all intuitive when things are calm. But, introduce some market volatility, and it’s extremely easy to lose sight of.

Last week on the Mullooly Asset Management podcast, this is why I mentioned that it’s integral to remember that not every dollar in a retirement portfolio has the same time horizon. Some dollars may be needed next month, and they are different than dollars that may be needed next year, which are different from dollars that may be needed in ten years. And, while those dollars may all hold the same value today, treating them equally is a big mistake.

We tend to consider our investments as a homogeneous entity with one time horizon, when it’s probably more helpful to separate the dollars into vintages. The same retirement portfolio can hold 2021 and 2022 vintages alongside 2041 and 2042 vintages. Not every dollar has a 20 year time horizon, but not every dollar has a 12 month time horizon either, and we should allocate them accordingly. We have to balance these sort of polar opposite needs in order to be successful.

To be clear, this is a form of mental accounting. But, as I’ve written here before: while mental accounting may only be a mind trick, who says it doesn’t matter?

We’ve found that, especially for retirees, this sort of mental accounting can be very reassuring during times of market turmoil. It’s why our process begins with getting a grip on personal cash flow. This allows us to identify a retirement portfolio’s different vintages. When constructing a portfolio, considering, “what will be needed and when?“, is much more helpful than guessing, “where is the market going next week and why?”. Allocating capital becomes less of an enigma when it’s simplified to matching future needs with appropriate assets based on their time horizon.

The tendency to think of our investments as one uniform entity is understandable, but it’s far more useful to remember that different dollars have different time horizons.

Filed Under: Behavioral Finance, Investing Tagged With: investor psychology, mental accounting, retirement planning

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Brendan Mullooly, CFP®

Brendan Mullooly, CFP®

Brendan Mullooly is a New Jersey based CFP® professional and investment advisor at Mullooly Asset Management, Inc.

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The content on this website reflects the personal opinions, thoughts, and analysis of Brendan Mullooly. It should not be taken as a description of services provided by his employer. The opinions expressed on this website are for general informational purposes only and are not intended as specific or personalized financial advice. The views on this website are subject to change at any time without notice. Nothing on this website constitutes investment advice or a recommendation that any particular security, portfolio of securities, transaction, or investment strategy is suitable for any specific person. Any mention of a particular security and related performance data is never a recommendation to buy or sell. Investments in securities involve the risk of loss. Past performance is no guarantee of future results.

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