March 7, 2025

Setting Up the Right Investment Strategy After Divorce

Managing your investments after a divorce can feel challenging, but it's also an opportunity to take control of your financial future. Here’s a step-by-step guide to help you set up a solid investment strategy that aligns with your new life goals.

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Step 1: Know the Basics of Stocks and Bonds

Among countless investment options, just a few should form the foundation of your portfolio.

Cash

While cash is not typically used for long-term investing, it is familiar and easy to understand. If you hold cash, you are a saver. You make money by earning interest, but the return is very low, especially after inflation. Cash is best for emergency reserves, short-term needs, and providing a feeling of security.

Bonds

If you own a bond, you are essentially a lender. Government entities and corporations issue bonds to raise money, and they are obligated to pay the money back with interest. Bonds are best for time horizons of 2-5 years, generating steady income, and providing stability to offset the higher risk of stocks.

Stocks

If you own stock, you are essentially an owner; you own a small percentage of a publicly traded company. Stocks are best for long-term goals, saving for retirement, and building wealth. They offer higher potential returns but come with greater risk compared to bonds.

Step 2: Start with a Plan

Successful investing is based on simple, time-tested principles. But just because something is simple doesn’t mean it’s easy. The best way to start is by defining your purpose and putting a plan in writing. A written financial plan is crucial because it produces better results. According to the Charles Schwab 2021 Modern Wealth Survey, people with a written financial plan were three times more likely to feel “very confident” in reaching their financial goals compared to those without one.

Investment markets are constantly shifting, but there is one thing you can quantify: your investment time horizon.

To assess your time horizon ask yourself, “When are my investment dollars needed?” and “How long does my money need to last?” Your strategy will vary depending on whether you are earning money and growing assets or withdrawing from your assets to meet spending goals.

For example, you should start with a review of your cash reserves. Do you have sufficient cash to cover any short-term emergency expenses? Consider your medical and other insurance deductibles, as well as certain potential costly repairs to your home such as your HVAC. Especially in periods of heightened market volatility, you should consider having a minimum of six months’ worth of expenses in a high yield savings account. Consider also holding in cash any amount you expect to need in the next 12 months for larger expenses such as home repairs or car replacements

Second, review how many years of bonds that you have for the intermediate term. This is especially important for those in retirement or nearing retirement. In normal market declines, bonds often hold their value or see moderate increases in value as investors flock to safety. Target at least five years’ worth of bonds in your portfolio.

For example, if you expect to retire in two years and then withdraw $10,000 per month, you should target at least $360,000 in bonds. Holding sufficient cash and bonds to cover at least five years’ worth of expenses will help to significantly limit the likelihood of being forced to sell stocks before they have a chance to recover.

Step 3: Create a Personalized Investment Strategy

Source: Carl Richards, behaviorgap.com

Your investment plan should be tailored to your specific goals and risk tolerance. A successful investment strategy can be simplified down to the three “Ds” of investing:

Destination—your time horizon, which determines the amount of risk you should assume.
Diversification—an appropriate mix of stocks, bonds and cash. Nobel laureate, Harry Markowitz, once famously said, “Diversification is the only free lunch in investing”. Eat up!
Discipline—Market swings are a certainty. As an investor, be prepared for this reality and respond with logic rather than emotion.

Choosing the right stock-to-bond mix is essential for building a successful investment portfolio, as it balances potential returns with your comfort with risk. A higher stock percentage offers greater growth potential but comes with increased volatility. On the other hand a higher percentage of bonds relative to stocks gives a higher likelihood of stability, but lower return expectations. Thoughtful consideration of these elements enables you to create a portfolio designed to maximize your chances of achieving your objectives while managing the impact of market swings.

Bonds in Your Portfolio

Bonds come in all “shapes and sizes”. As mentioned before, bonds are generally less risky than stocks because the bond investor is a creditor to the entity that issued the bond. This means that the issuer has a legal responsibility to repay the bond. However, such responsibility can only be counted on by bond investors if the issuer remains solvent. If the issuer declares bankruptcy, for example, there is no guarantee the bond will be repaid. This is called “creditor risk”. Companies that issue stock, conversely, can slash dividends with far fewer requirements.

Another type of risk with bonds is interest rate risk. Bonds are issued in the market at a competitive interest rate at that time. However, should interest rates increase, the market will pay less for your bond as they can get a newly issued one at a higher rate. Bonds that are issued at longer terms, say 30 years, have far greater interest rate risk than ones issued at shorter periods like 5 years. This is because a buyer of a bond is “locking in” that interest rate until the bond matures. The longer it takes for the bond to mature, the more at risk the buyer is to fluctuations in the interest rate environment.

If you are seeking to minimize the above risks in bonds, you can do so by buying bonds that are: (a) shorter term, and (b) from higher credit quality issuers (such as the US government). Moreover, buying a bond fund that holds hundreds or thousands of different bonds can help minimize creditor risk by diversifying the number of issuers you own bonds from.

An Important Note:

Bonds issued by companies or entities that are deemed less credit-worthy by the market and rating agencies must pay a higher interest rate to compensate buyers for such risks. These are commonly referred to as “high yield” or “junk” bonds. Despite rates that look attractive on the surface, these types of bonds are typically much riskier. Sometimes, they carry as much risk or price volatility as stocks do. Be sure you understand the risks of such bonds or bond funds if you choose to invest in them.

Stock Side of the Portfolio

Rather than buying one or even small handful of stocks, a commonly used and reasonable approach is to “buy the haystack” rather than look for the needle (next big winner) in the haystack. This can be accomplished through investment vehicles such as mutual funds and/or exchange traded funds (ETFs).

You can further diversify by incorporating stocks that are:

Large, medium, and small sized companies
Value (less popular/cheaper) and Growth (popular/pricier) companies
US stocks and international stocks

With so many options to consider, navigating the complexities of asset allocation can feel daunting. Consider consulting with a financial professional such as a Certified Financial Planner® to help you determine an appropriate strategy customized to your needs.

Step 4: Embrace Total-Market Returns

It's important to embrace total-market returns, which means investing in a broad range of assets to capture the overall market performance. This approach reduces the risk of trying to pick individual winners and losers. Imagine the collective stock market (buyers and sellers) as a giant computer that constantly processes all the news, data, and opinions about a company. This information influences the stock price as people buy and sell shares. Because of this continuous and extremely rapid flow of information, the current stock price is generally considered a fair estimate. Said another way, if you read something online or see something on TV about a stock, the stock price already reflects that information.

Also avoid market timing, which involves trying to predict market movements. Market timing is risky as it can lead to buying high and selling low and encourages emotional decision making, both of which negatively impacts returns. Even relying on “expert” opinions on the future of the stock market can lead to risky decisions. Howard Marks, Co-founder and Co-chairman of Oaktree Capital Management, advises, "Most macro forecasts are likely to turn out to be either (a) unhelpful consensus expectations or (b) non-consensus forecasts that are rarely right. In areas entailing great uncertainty, agnosticism is probably wiser than self-delusion."

Step 5: Monitor and Adjust Your Portfolio

Rebalancing is an important process of resetting your investment assets to your targeted allocation. Set a regular schedule, such as quarterly or annually, to review your asset allocation. If your portfolio has drifted from your target allocation, you can rebalance by selling assets that have performed well and buying assets that have underperformed.

Beware, that at times it won’t “feel good” to make a rebalancing adjustment. For example, you may just want to let it run when markets are doing well or leave it alone when markets are down. This is a time to lean on the third “D” of investing: Maintain discipline and take action.

You can ensure your investment portfolio remains aligned with your goals by staying informed and seeking professional advice when needed. Remember, investing is a marathon, not a sprint. Stay patient and focused on your long-term goals.

Conclusion

Starting your investment journey solo after a divorce can be daunting, but with the right strategy, you can build a secure and prosperous future. Embrace this new chapter with confidence and take control of your financial destiny.

Investment advice, financial planning, and retirement plan services are provided by Prosperity Planning, Inc., an SEC registered investment advisor. The information contained herein, including but not limited to research, market valuations, calculations, estimates and other material obtained from these sources are believed to be reliable. However, Prosperity Planning, Inc. does not warrant its accuracy or completeness. The information contained herein has been prepared solely for informational purposes and is not an offer to buy or sell or a solicitation of an offer to buy or sell any security or to participate in any trading strategy. If an offer of securities is made, it will be under a definitive investment management agreement prepared on behalf of Prosperity which contains material information not contained herein and which supersedes this information in its entirety. Any investment involves significant risk, including a complete loss of capital and conflicts of interest. Certain risks are summarized below. The applicable definitive investment management agreement and Form ADV Part 2A will contain a more thorough discussion of risk and conflict, which should be carefully reviewed before making any investment decision.