Should you use the 100 minus age rule to decide your asset allocation?

Kapil, 36, is a freelance artist who wishes to retire by 60. He has two young kids and a working wife. He has invested in some good large-cap stocks and a mix of fixed deposits and tax-free bonds to build a retirement corpus. He’s unsure about his asset allocation. His father told him about the ‘100 minus age’ rule to determine his equity allocation—it should be the difference between 100 and his age. Should he heed the advice?

The idea behind the rule is that younger people can afford to take more risks. At 36, Kapil’s ability to take risks is likely to be somewhat reduced. But can this rule be generalised to apply to all scenarios? What if Kapil decides to retire earlier, say by 50? The ‘100 minus age’ rule does not take into account the fact that if he retires early, his portfolio will still be heavily (almost 50%) invested in equity. After retirement, higher equity exposure might put his corpus at risk of erosion in terms of value. At the same time, a portfolio that contains 50% fixed income instruments cannot generate enough income to last for a long period when adjusted for inflation.

Similarly, consider a scenario where he postpones his retirement until he is 70, in which case he can afford to take some more risks. But owing to the ‘100 minus age’ rule, he will be forced to book early profit in stocks and invest in debt. Thus, he will run the risk of losing out on a few more years of high returns. This shows that the ‘100 minus age’ rule does not take into account Kapil’s financial goals.

Moreover, is risk appetite only a function of age? Kapil’s active income is uncertain, which means that he may not be able to afford to take the risk of a heavy allocation to equity. His wife’s income is probably enough to cover the routine household expenses and support the education of their children. He definitely needs a stable investment portfolio to make up for his unreliable income.

Clearly, the proportion of equity in Kapil’s portfolio should be in accordance with his risk appetite, which is a function of his ability and willingness to take risk. Linking it to age is probably an over-simplification. It might sound a tad complicated, but he must consider his financial goals, number of dependents and investment horizon while making asset allocation decisions.

(The content on this page is courtesy Centre for Investment Education and Learning (CIEL). Contributions by Girija Gadre, Arti Bhargava and Labdhi Mehta)