How Can I Reduce Risk in My Retirement Portfolio?
- Mark Fonville, CFP®
- Oct 31
- 16 min read
Updated: Nov 19
A client recently asked me an increasingly common question: Should I increase my stock market exposure while markets are up?
It's a tempting thought. After all, why not invest more into stocks while the momentum is strong?
Here's the reality: U.S. stock markets are trading at historically elevated valuations, and corrections occur with surprising regularity. I explored this in depth in our article Understanding Stock Market Corrections and Crashes.
While no one can predict when the next downturn will strike, we do know this: expected returns decline when prices are high.
Consider the Shiller P/E ratio, a widely respected valuation indicator that measures whether stocks are expensive or cheap relative to historical earnings.
As of October 30, 2025, the Shiller P/E stands at 39.5—significantly above the 27.0 average we've seen since 1990.
I won't be the first or the last to tell you that nobody can consistently predict (based on skill) the future near term direction of stock markets.
The good news, is that you don't need a crystal ball to be successful. You just need discipline and to prioritize risk management especially as you near retirement.
That's why you should be asking yourself the question: How can I reduce risk in my investment portfolio? Now is the time to answer this questions. Not after a stock market crash.
One of the most important aspects of retirement planning is ensuring that your nest egg is protected from market downturns. I often see investors lose sight of the importance of risk management when stock markets are surging - only focusing on returns. This can be a mistake.
As you approach and enter retirement, the stakes get even higher, and the margin for error diminishes.
The pursuit of financial security demands a plan with risk management. As disciplined savers, your well-earned nest egg – having surpassed the million-dollar mark – is both a testament to your financial acumen and a call to safeguard the fruits of your labor.
This article discusses how to reduce risk in a portfolio and includes insights on diversifying your portfolio, correctly allocating assets, and improving your decision-making.
While proper diversification doesn’t guarantee against loss, our hope is that these tips can help steer you toward a prosperous retirement.
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So, how can you reduce risk in your investment portfolio? Here's what you need to know.
Avoid Timing the Market
There’s an old investment adage that says, “Time in the market is more important than timing the market.” Like most cliches, this one rings true.
Trying to time the market is akin to trying to guess the physical factors of the roulette ball so that you can accurately predict its landing point on the table. In a perfect world, you’d be able to accomplish this. But, in reality, there are just too many factors at play and the margin for error is too small to be continuously successful.
Some investors are tempted to try to time the market in response to price swings.
This chart illustrates what happens to a $1,000 investment in the S&P 500 (before transaction costs) under different timing scenarios—all starting in 2009.
The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged and do not reflect management or trading fees, and one cannot invest directly in an index.
The baseline shows staying fully invested throughout the entire period. The alternative scenarios show what would have happened if you moved to cash and missed various numbers of the market's worst days since 2009—specifically the 1, 5, 10, 15, or 20 worst single-day declines.
When the "worst days" would overlap in timing, the days out of the market are extended consecutively to reflect the full period you would have been sitting on the sidelines.
Let’s meet two hypothetical investors, Lisa and John.
Lisa invested $1,000 into the S&P 500 index (Excludes fees and taxes. Not available for investment.) on January 1st, 2009 after experiencing a tumultuous market crash. Nearly every headline she reads is negative and there appears to be no end in sight. However, she realizes that trying to time the stock market is a fool’s errand. Instead, she trusts in markets long-term and prefers to avoid timing the market.
John, on the other hand, takes a different approach. He believes that it’s possible to get in and out of the stock market at the right time over the long-term. John invests $1,000 on January 1st of 2009, but decides to move his money to cash for three months after each of the 20 worst days since 2009. After the three month period, John reinvests into the S&P 500 index.
How did both investors turn out? Just take a look at the chart above.
Lisa’s $1,000 grew to $10,185 and John’s $1,000 grew to only $5,770 due to his market timing strategy.
Why?
Market timing hinges on accurately predicting market moves based on macroeconomic issues, a feat that eludes even the most seasoned experts. Even worse – just like the roulette table – the allure of predicting the perfect time to buy or sell assets is a siren song that has lured many astray.
In the pursuit of long-term financial well-being, we believe a better approach involves staying the course with a well-crafted investment strategy.
In the short term, it’s impossible to predict what the market will do. But, over the long run, the market has always trended up and to the right. While not guaranteed, if you keep your money invested long enough, your nest egg has a better chance to accomplish the same goal.
Diversify Across Stocks and Bonds
I've been hearing a troubling refrain from prospective clients lately: their current advisors are telling them to avoid bonds entirely.
The rationale? They point to the historically low interest rates of the 2010s...
and the brutal 2022 bond market decline when the Bloomberg U.S. Aggregate Bond Index fell 13%—its worst performance in modern history. "Why hold bonds when they don't pay anything and can lose money just like stocks?"
It's a seductive argument, especially when markets are surging. But it's dangerously wrong.
This thinking confuses recent experience with permanent conditions and overlooks bonds' fundamental role in retirement portfolios. Yes, the 2010s were an anomaly of near-zero rates. And yes, 2022 was painful—but the fastest rate hiking cycle in decades actually improved future bond returns for patient investors.
Here's what the "skip the bonds" advice ignores: bonds provide portfolio ballast during equity crashes, reduce volatility, generate predictable income, and offer rebalancing opportunities.
This chart shows annual returns for the S&P 500 and Bloomberg U.S. Aggregate total returns. The blue bars are S&P 500 returns while the gold are Bloomberg U.S. Aggregate returns. The blue and gold dotted lines denote their respective averages. Date Range: January 2, 1990 to present. Source: Clearnomics, Standard & Poor's, Bloomberg. The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged and do not reflect management or trading fees, and one cannot invest directly in an index.
Most critically for retirees, they protect against sequence-of-returns risk—the danger that early market declines permanently derail your retirement plan.
Balancing stocks and fixed-income assets goes hand in hand with diversification. Here are some guidelines to help you strike the right balance:
Risk Tolerance:
Assess your comfort level with market fluctuations. If you're averse to big ups and downs, a higher allocation to fixed income may be suitable. Taking a proper risk tolerance test can help.
Fixed Income Variety:
Diversify your bond holdings by including government, corporate, and possibly municipal bonds.
Varying maturities can provide a balance between income and interest rate risk.
This chart shows sector total returns sorted from best to worst each year. Fixed income sectors included are Bloomberg U.S. Aggregate Bond Index, Bloomberg EM USD Aggregate Index, Bloomberg U.S. Corporate High Yield Index, Bloomberg Municipal Bond Index, Bloomberg U.S. Treasury Inflation Notes Index, Bloomberg U.S. Corporate Index, Bloomberg U.S. Treasury Index, Bloomberg U.S. Treasury, Bloomberg U.S. Mortgage Backed Securities Index, and Bloomberg EM Local Currency Government Index. Source: Clearnomics, Bloomberg. The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged and do not reflect management or trading fees, and one cannot invest directly in an index.
How much portfolio decline can you tolerate during the worst of times?
Here's one of the most practical allocation guidelines we share with clients: the "sleep-at-night test."
Ask yourself this question: How much could my portfolio decline before I'd be tempted to sell in a panic? Whatever that number is, double it—that's roughly the maximum stock allocation you should hold.
Here's how it works in practice:
Tom and Mary have a $2 million portfolio. They're long-term investors, but they know themselves well enough to recognize they'd become extremely uncomfortable watching their portfolio drop $600,000—a 30% decline. Once they hit that threshold, the urge to "do something" would become overwhelming. So Tom takes that 30% pain threshold and doubles it to arrive at 60% stocks. The remaining 40% goes to bonds. This gives them a 60/40 portfolio.
Why double the number?
Because historically, a 60% stock allocation has experienced maximum drawdowns around 30% during severe bear markets. By calibrating their allocation to their actual risk tolerance rather than what they think they should tolerate, Tom and Mary build a portfolio they can stick with when markets inevitably decline.
The best investment strategy is the one you won't abandon during a crisis. This simple test helps ensure your allocation matches your emotional reality, not just your financial goals.
Diversify Across Asset Classes
Before we even consider working together, every prospective client goes through the same three-step free retirement assessment process. First, we build a personalized retirement plan to determine whether their assets will sustain them throughout retirement. Second, we analyze their tax return to identify potential tax savings strategies. Lastly, we analyze their current portfolio to identify any gaps or vulnerabilities.
Here's what we consistently discover: many investors believe they're well diversified. In reality, they're not—and they're exposed to catastrophic risks that simply haven't materialized yet.
Diversification is the cornerstone of a robust retirement portfolio. If your goal is to learn how to reduce risk in a portfolio, this is a key topic.
This periodic table shows annual performance rankings across asset classes from 2010-2025, highlighting two important historical patterns: the difficulty of predicting year-to-year winners, and the tendency of diversified portfolios to produce steadier results.
The Balanced Hypothetical Portfolio (60/40 stock/bond allocation) rarely tops the rankings but also avoids the worst downturns—historically delivering more predictable outcomes than concentrated positions in any single asset class.
This chart shows the annual total returns for varying asset classes. Asset classes included are MSCI Emerging Markets Index (EM), MSCI Developed Markets Index (EAFE), MSCI World Small Cap Index (Small Cap), S&P 500, balanced portfolio, fixed income, and MSCI World Commodity Producers Index (comm.). The balanced portfolio is a historical 60/40 portfolio consisting of 40% U.S. large cap, 5% small cap, 10% international developed equities, 5% emerging market equities, 35% U.S. bonds, and 5% commodities. You cannot invest in an index. Diversification does not guarantee protection against loss. Past performance is not indicative of future returns. Date Range: January 3, 2006 to present Source: Clearnomics, LSEG. Indices do not include fees or expenses. The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged and do not reflect management or trading fees, and one cannot invest directly in an index.
Here are some tips to help you navigate diversification in your portfolio:
Asset Class Variety:
Spread your investments across different asset classes such as stocks, bonds, and real estate. And yes, we believe that bonds remain a powerful component of a diversified portfolio.
Each asset class responds differently to economic conditions, providing a potential buffer against market volatility. For example, when your stocks are down, bonds might be up.
Global Allocation:
Consider international diversification to reduce risk with any single country's economic performance.
Global exposure can add a layer of resilience to your portfolio. You can gain some exposure through large U.S. companies, but there are also many funds that focus on different markets.
Size and Style Diversification:
Include a mix of large-cap, mid-cap, and small-cap stocks to balance growth potential and risk.
Diversify between growth and value stocks to capture different market trends. For example, value stocks often provide income by paying dividends.
Real Assets and Real Estate:
Consider investing in real assets like commodities to hedge against inflation.
You can also buy and manage different properties. And for a more hands-off approach, real estate investment trusts (REITs) can offer exposure to the real estate market.
Professional Guidance:
Consider consulting with a financial advisor to tailor your portfolio to your financial situation and goals.
As illustrated in the chart above, improved risk management through broader diversification may narrow the returns at the extremes.
While diversification cannot guarantee against a loss, diversification takes advantage of these trends.
With cheaper valuations and global growth, it may be best to not overlook other regions for investment.
Remember, the key is not just to diversify for the sake of it but to create a well-balanced mix of assets. Your portfolio should align with your long-term goals and risk tolerance.
Focus on Long-Term Wealth Building
This chart shows the growth of $1 since 1926 in the Standard and Poor's Composite and 10-year U.S. Treasury bonds. Stock returns include dividend reinvestment. The inflation line shows the number of dollars over time to equal $1 in spending in 1926, accoring to the Bureau of Labor Statistics Consumer Price Index. This chart uses a logarithmic scale. Date Range: January 1926 to present. Source: Clearnomics, Robert Shiller, Standard & Poor's, BLS. The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged and do not reflect management or trading fees, and one cannot invest directly in an index.
Similar to staying physically healthy, building wealth is all about letting small decisions play out over the long run. For example, eating just one salad won’t be enough to make you healthy. But, if you eat a salad every day for decades (paired with ample exercise) then you’ll undoubtedly be in great shape.
We believe that the same rings true for your retirement portfolio.
Try to avoid constantly buying/selling different stocks or assets in hopes of chasing a slightly higher return. Instead, commit to your investment strategy and embrace a patient mindset. In doing so, you’ll enjoy the magic of compound interest as you can see in the chart above.
Couple this with reinvested dividends and consistent contributions and you’re well on your way to building a golden nest egg to fund your retirement.
Eliminate or Reduce Concentrated Stock Positions
Hold a concentrated stock position long enough, and eventually one of two things happens: it either becomes your retirement home run, or it slowly rots into a cautionary tale.
The odds? Not in your favor.
Here's the reality: most individual stocks underperform their benchmark over time. Research shows just 4% of stocks have accounted for all of the market's net gains since 1926. That means 96% either matched Treasury bills or did worse.
When you concentrate in a single stock, you're betting you've picked one of the rare winners. The math works against you. Over time, the median stock's performance deteriorates as companies stumble, fade, or fail.
Diversification solves this elegantly. By holding the entire market, you automatically capture those exceptional companies that drive returns—the next Apple or Amazon—without needing to predict which one it'll be.
You're not settling for average. You're ensuring you don't miss the winner
If you’re interested in developing a strategy to reduce your concentrated stock exposure, be sure to schedule a free retirement assessment with one of our wealth advisors. We'll be sure to cover that concern and more.
Consider Short-Term, High-Quality Bonds
Short-term, high-quality bonds offer advantages that align with the needs of many retirees.
First and foremost, these bonds generally have lower risk compared to longer-term bonds. With shorter maturities, they are less sensitive to fluctuations in interest rates, providing more stability in the face of market volatility.
For example, in the chart below, we illustrate the returns for a popular short term index vs. the returns of a a long-term bond index. Notice the large variability in returns based on the calendar year.
Short Term Gov't Bonds represented by the ICE BofA 1-3Y US Trsy&Agcy TR USD Index. Long Term Gov't Bonds represented by the BBgBarc US Government Long TR USD Index. No fees or expenses included. You cannot invest directly in an index. The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged and do not reflect management or trading fees, and one cannot invest directly in an index.
Moreover, high-quality bonds, often issued by stable entities such as governments, present a lower risk of default. This increased level of safety aligns with the conservative goals of many retirees. It can offer a more stable foundation for a portion of your portfolio.
Short-term, high-quality bonds in your retirement portfolio can serve as a stabilizing force. While not guaranteed, this approach may offer lower interest rate risk, increased safety, liquidity, and a reliable income stream.
Implement Systematic Rebalancing
Market movements naturally push your portfolio away from your target allocation. When stocks surge, your equity exposure creeps higher, increasing your risk beyond intended levels. When bonds outperform, you may hold more fixed income than optimal for your goals.
Rebalancing is the disciplined process of restoring your portfolio to its target allocation. More importantly, it's a mechanical system that forces you to sell high and buy low—the opposite of what most investors do emotionally.
How rebalancing works: Assume your starting portfolio allocation in 2009 is 60% stocks and 40% bonds. After a strong bull market in stocks, the portfolio drifts to 91% stocks and 9% bonds as outlined in the chart below.
This chart shows the current composition of a stock and bond portfolio that was created in 2009, but never rebalanced. Stocks and bonds are represented by the S&P 500 and Bloomberg Aggregate Bond Index, respectively. The white dotted lines show the starting allocation. Ending date is October 2025. Source: Clearnomics, LSEG. The results are hypothetical results and are NOT an indicator of future results and do NOT represent returns that any investor actually attained. Indexes are unmanaged and do not reflect management or trading fees, and one cannot invest directly in an index.
As a result of the increase in stocks over time, the portfolio becomes more risky. Rebalancing involves selling enough stocks and purchasing enough bonds to return to your 60/40 target.
Rebalancing approaches:
Calendar-based rebalancing: Review and rebalance on a fixed schedule—annually, semi-annually, or quarterly. This approach is simple and removes emotion from the decision. Annual rebalancing typically provides an effective balance between maintaining your risk profile and minimizing transaction costs and taxes.
Threshold-based rebalancing: Rebalance only when an asset class drifts a certain percentage from its target—typically 5% or more. For example, if your stock target is 60%, you'd rebalance when stocks reach 65% or drop to 55%. This approach can be more tax-efficient since you're only trading when drift becomes meaningful.
Tax-aware rebalancing: Use contributions, withdrawals, and tax-loss harvesting opportunities to rebalance without triggering unnecessary capital gains. Direct new contributions to underweighted asset classes, or make withdrawals from overweighted positions. In taxable accounts, harvest losses in positions that have declined to offset gains from rebalancing trades.
The research on rebalancing frequency shows diminishing returns beyond annual rebalancing, and more frequent rebalancing can increase costs and taxes without meaningfully improving risk-adjusted returns.
At Covenant Wealth Advisors our preferred method for rebalancing combines threshold-based rebalancing and tax-aware rebalancing. Read this article for a deeper dive into how often you should consider rebalancing.
Pro Tip: Rebalancing in tax-deferred accounts (IRAs, 401(k)s) avoids immediate tax consequences, making these accounts ideal for rebalancing trades. In taxable accounts, consider the tax implications of each trade and coordinate rebalancing with your broader tax strategy.
Increase Your Liquidity
Market downturns call for financial resilience. In times of market turbulence, liquidity acts as a financial buffer, allowing you to cover expenses without being forced to sell investments at depressed values.
Consider having three to twelve months worth of living expenses in easily accessible, low-risk assets, and avoid tying up all your funds in long-term, illiquid investments.
For many of our clients, we may recommend maintaining up to two years of expenses in the form of cash on hand depending upon their financial situation.
Liquidity not only provides peace of mind during a market downturn but also positions you to seize investment opportunities that arise when asset prices are low.
Here’s more on where to invest emergency funds in retirement.
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Tax Planning - Creative tax strategies, Roth conversions, RMDs, charitable giving and more...
Conclusion
With the insight above, you’ve learned how to reduce risk in a portfolio. A commitment to your long-term goals and resilience against the fluctuations of the market can help you stay on track with your retirement goals. Begin by building a clear and realistic investment strategy that aligns with your risk tolerance, financial goals, and retirement timeline.
Once set, resist the allure of short-term market noise and remain unwavering in the face of volatility. Regularly review your portfolio's performance, but let your main goals guide decisions rather than fleeting market trends. Diversification, rebalancing, and a focus on quality investments are pillars of a sound retirement—stay true to them.
If you’re interested in learning more about how to build wealth to and through retirement, contact us today for a free retirement assessment.
We hope that you’ve found this article valuable in learning how to reduce risk in a portfolio.
Author: Mark Fonville, CFP®
Mark is a fiduciary, fee-only financial advisor at Covenant Wealth Advisors specializing in helping individuals aged 50 plus plan, invest, and enjoy retirement without the stress of money.
Forbes nominated Mark as a Best-In-State Wealth Advisor* and he has been featured in the New York Times, Barron's, Forbes, and Kiplinger Magazine.
Disclosure: Covenant Wealth Advisors is a registered investment advisor with offices in Richmond and Williamsburg, VA. Registration of an investment advisor does not imply a certain level of skill or training. Past performance is no guarantee of future returns. Investing involves risk and possible loss of principal capital. The views and opinions expressed in this content are as of the date of the posting, are subject to change based on market and other conditions. This content contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected. Please note that nothing in this content should be construed as an offer to sell or the solicitation of an offer to purchase an interest in any security or separate account. Nothing is intended to be, and you should not consider anything to be, investment, accounting, tax, or legal advice. If you would like accounting, tax, or legal advice, you should consult with your own accountants or attorneys regarding your individual circumstances and needs. No advice may be rendered by Covenant Wealth Advisors unless a client service agreement is in place. Hypothetical examples are fictitious and are only used to illustrate a specific point of view. Diversification does not guarantee against risk of loss. While this guide attempts to be as comprehensive as possible but no article can cover all aspects of retirement planning. Be sure to consult an advisor for comprehensive advice.
