30-Minute Money Solutions: A Step-by-Step Guide to Managing Your Finances

Chapter 11. Find the Right Stock/Bond Mix

Are you a stock or a bond?

You may not be accustomed to comparing yourself to a financial security, but it may be useful when you're trying to figure out your portfolio's optimal stock/bond mix.

The thinking goes like this: If your own earning power—which Morningstar affiliate Ibbotson Associates calls human capital—is very stable and predictable, then you're like a bond. Think of a tenured college professor, whose income is secure for the rest of his life, or a senior who's drawing upon a pension from a financially stable company. Because such an individual has a predictable income, he could keep a larger share of his portfolio in stocks than someone with less stable human capital. He's a bond.

At the opposite end of the spectrum would be an investment broker whose income depends completely on the stock market. When the market is going up and the broker's clients are clamoring to invest, her commissions are high and she may also earn a bonus. But when the market is down, so is her income, and her bonus may be nonexistent. She's a stock. She'd want to hold much more in bonds than stocks, because her earnings are so dependent on the stock market.

Just as our career paths affect how we view our own human capital, so do our ages. When you're young and in the accumulation phase, you're long on human capital and short on financial capital—meaning that you have many working years ahead of you but you haven't yet amassed much in financial assets. Because ...