A recurring theme jumping out at me from news headlines is that millennials are shying away from the stock market, setting them up for long-term failure as they invest for retirement. For example, just recently, I read about a survey that reported less than 20% of millennials found the stock market to be the best way to save for the future. Frankly, I don’t get it. The numbers don’t support the sentiment!
Looking at both Vanguard and industry data, we see that younger investors are actually embracing stocks. They’re doing so through the use of balanced funds such as target-date funds. So, why the disconnect? Perhaps millennials don’t realize it, but their average equity exposure is very much in line as to what it should be at this stage of their investing program.
Case in point: Among young Vanguard IRA® investors, the average stock allocation is about 85%.
This trend isn’t exclusive to Vanguard IRA investors. According to the Investment Company Institute, equity holdings in Roth IRAs for younger investors industry-wide is about 82%.*[i]
According to our research, millennials also have (appropriately) high equity allocations in their 401(k) plan portfolios. Similar to IRA equity allocations, equity holdings for young investors in their employer-sponsored plans average around 85%.[ii] While in the past we saw younger investors with more conservative 401(k) portfolios, we see more equity exposure today. Improved plan design , such as the use of auto-enrollment and the use of target-date funds as a default investment, are opting investors into balanced portfolios and thus helping them avoid asset allocation mistakes (such as extreme portfolio allocations).
Investing in the stock market can be risky. But, when investing for the long term, avoiding the stock market can be even riskier. There are two opportunity costs as a result of staying on the sidelines. The first is shortfall risk; if the portfolio lacks investments that offer higher return potential, younger investors may not achieve growth sufficient to fund long-term goals. The second is inflation risk; the portfolio may not grow as fast as prices grow, and younger investors will lose purchasing power over the long term.
So while millennials face financial challenges, I don’t see their lack of equity exposure as one of them. In evaluating the asset allocation decisions in their tax-advantaged retirement accounts, the numbers support that younger investors are actually on the right track!
Oh, and take a look at the first chart again. Notice that older IRA owners have higher equity allocations than Vanguard’s Target Retirement Funds glide path? I’ll share my thoughts in my next blog.
* Roth IRA contributions outpace traditional IRA contributions 2 to 1 for younger investors. Traditional IRA equity holdings among younger investors are lower, ranging from an average of 64% for those 25–29, and 72% for those in their 30s. [iii]
[i] Holden, Sarah, and Daniel Schrass. 2015. “The IRA Investor Profile: Roth IRA Investors’ Activity, 2007–2013.” ICI Research Report (July). Available at http://www.ici.org/pdf/rpt_15_ira_roth_investors.pdf
[ii] Young, Jean A. and Stephen P. Utkus, 2016. “How America Saves 2016.” Valley Forge, Pa., Vanguard.
[iii] Holden, Sarah, and Steven Bass. 2015. “The IRA Investor Profile: Traditional IRA Investors’ Activity 2007–2013.” ICI Research Report (July). Available at http://www.ici.org/pdf/rpt_15_ira_traditional.pdf