How Your Retirement Age Could Affect Your Social Security Benefits

Contributed by: Melissa Parkins, CFP®

When planning for retirement, one of the biggest factors to figure out is how you will recreate your paycheck when you are no longer working to receive one from an employer. A couple of questions to think about:

• Do you have a pension through your employer and if so, when are you eligible to start receiving income?

• Will you live off of your portfolio?

• Is Social Security the only income stream you have access to?

Many people (including myself!) long to retire early, but doing so could reduce your Social Security benefits. Your benefit will depend not only on how much you have earned in the past, but also when you decide to leave the workforce.

If you stop working before you have 35 years of earnings reported, then a zero is used for each year without earnings when your benefit amount is calculated. Any zeros will bring down your earnings average and reduce the benefits you will receive. Even if you have 35 years of earnings reported, if some of those years are low earning years (maybe at the beginning of your career), they will be averaged into your calculation and bring your benefits down lower than if you had continued to work for a few more years while, ideally, earning higher wages during your peak earning years.

One potential point of confusion when planning to retire early comes on your Estimated Benefits statement. When you look at your Social Security statement, your reduced expected benefit at age 62 actually means the amount you are expected to receive if you work until age 62 and begin collecting benefits at that time. Likewise, your increased expected benefit at age 70 means the amount you are expected to receive if you work until age 70 and then begin collecting benefits. So if you do retire early or at different ages than the two listed, the number shown as your estimated benefit could be different.

At my current age of 25, retiring early is something I aspire towards – I picture a long, lavish (read: expensive) life of luxury! Hey, a girl can dream! Many people (maybe more realistically than me) also strive to retire early, and if you don’t have access to a pension, then you may be depending more heavily on your Social Security benefit. If you do retire early, then you may receive a reduced benefit. However, retiring early is not unrealistic; but in order to have enough money to live at your comfort level, it may require working part time for a bit after retirement or even saving more now to make up for a potentially lower Social Security benefit. When making these decisions, talk with your Financial Planner about your retirement goals to see how best to build your plan to financial independence.

Melissa Parkins, CFP® is an Associate Financial Planner at Center for Financial Planning, Inc.

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This material is being provided for information purposes only and is not a complete description, nor is it a recommendation. Any opinions are those of Melissa Parkins and not necessarily those of Raymond James. The information has been obtained from sources considered to be reliable, but Raymond James does not guarantee that the foregoing material is accurate or complete.

Pensions: Understanding the Hurdle Rate

Contributed by: Nick Defenthaler, CFP®

Monthly payments or a lump-sum? This is often times the “million dollar question” for those in the workforce who still have access to a defined benefit – a pension plan. As I’m sure you’re aware of, pension plans, in the world we live in today, are about as common as seeing someone using a Walkman to listen to music – pretty much non-existent. Most companies have shifted from defined benefit retirement plans that offer a fixed payment or lump-sum upon retirement to defined contribution plans such as a 401(k) or a 403(b) as a cost savings measure. However, if you’re lucky enough to be eligible for a pension upon retirement, the hurdle rate, or internal rate of return, is one of the more important, quantitative aspects about receiving a pension that will influence your decision to either take the lump-sum or receive fixed monthly payments.

What the heck is a hurdle rate?

To keep things simple, the hurdle rate, also known as the internal rate of return, is essentially the rate of return necessary for the investment of the lump-sum option to produce the same income as the fixed monthly payment option. One of the most important factors that will go into this calculation is life expectancy. Typically, the longer you expect to live the higher the hurdle rate will be because the dollars will have to support your spending longer. Let’s take a look at an example. 

Tom, age 65, will be retiring in several months and has to make a decision surrounding his pension options. He can either take a $50,000/year payment that would continue in full, even if he pre-deceases his wife, Cindy (also 65), or he could take a lump-sum distribution of $800,000 that his financial planner could help him manage. Tom and Cindy both have longevity in their family and feel there is a good chance at least one of them will live until age 95. If either of them lived another 30 years and they invested the $800,000 lump-sum, the IRA would have to earn a 4.65% rate of return to produce the same $50,000 of income the fixed payment option would offer. If, however, age 85 was a more realistic life expectancy for Tom and Cindy, the hurdle rate would decrease to 3.78% because the portfolio would not have to produce income for quite as long. 

Some financial planners would argue that 4.65% as a hurdle rate at age 95 is more than doable in a well-balanced, diversified portfolio over three decades, but others may not (check out Tim Wyman’s, CFP®, blog on how professional opinions can differ). While we certainly have our opinions on long-term market performance, the most important decision, in my opinion, determining between lump sum or fixed payments, is how the decision made will help you sleep at night. 

Keep in mind that this is just one of the many factors we help clients evaluate when making this important decision with their pension. While we wish there was a clear, black and white, right or wrong answer for each client situation, that’s virtually impossible because there are so many different variables that go into analyzing your financial options. We’ll help you look at and understand all of your options, but ultimately it’s your decision on what route you take depending on what makes you feel the most comfortable. In the end, at The Center we work with our clients to ensure that they can live their plan when they are ready and in a manner that they are confident with. When making important financial decisions, especially regarding your pensions, remember that we are here to help.

Nick Defenthaler, CFP® is a CERTIFIED FINANCIAL PLANNER™ at Center for Financial Planning, Inc. Nick is a member of The Center’s financial planning department and also works closely with Center clients. In addition, Nick is a frequent contributor to the firm’s blogs.

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This material is being provided for information purposes only and is not a complete description, nor is it a recommendation. Any opinions are those of Nick Defenthaler and not necessarily those of Raymond James. The information has been obtained from sources considered to be reliable, but Raymond James does not guarantee that the foregoing material is accurate or complete. Prior to making an investment decision, please consult with your financial advisor about your individual situation. Investing involves risk and investors may incur a profit or a loss regardless of strategy selected. Diversification and asset allocation do not ensure a profit or protect against a loss. The example provided in this material is for illustrative purposes only.

A Webinar in Review: Cyber Security and How to Keep Your Information Safe

Contributed by: Clare Lilek

As more and more of our personal information makes its way onto the web or into our devices, cyber security is a growing concern. Did you know that there are 12 victims of cybercrime per second?! That’s over 1 million victims per day, and 378 million per year! The numbers are staggering and the threat is all too real. That’s why Nick Defenthaler, CFP®, hosted a webinar on cyber security with guest presenter Andy Zopler to help us combat these prevalent fears. Andy Zopler, Chief IT Security Officer with Raymond James, has been doing IT work for over three decades and has been focusing on the financial services for the past 15 years. Over an hour’s time, he explained the growing epidemic of cyber fraud and not only told us how Raymond James combats such attacks, but also gave the attendees tips for practicing cyber safety in their daily lives.

Let’s set the scene: we are currently living the second technology revolution (the first being the industrial revolution). The advancements and growing pervasiveness throughout society has made technology extremely influential in how we live our lives. The technology explosion has changed the way we interact with and conduct our finances, and how criminals can access our personal, financial information. Andy Zopler addressed these concerns by first identifying the threat actors.

Knowing who the threat actors, or bad guys, are is crucial to understanding our own fear and the reality of what type of attacks are most likely to be perpetrated. Andy talked about how external factors such as criminals, spies, and hacktivists are what make up most of our concerns. Of course there are also insider and partner threat actors as well; but of the five mentioned, criminal threat actors are the most common concern. Criminal threat actors want your money, which makes them scary, but also, quite predictable. Raymond James screens about 1.5 million spam and fraudulent emails every day that are sent to their financial advisors across the United States.

The sheer amount of attempts can be worrisome, but Andy explained how Raymond James defends the company and its financial advisors (including The Center) every day. The strategy includes:

• Protect – using creative solutions to stop attacks from happening.

• Detect – assume that all protections will fail, so remain vigilant for fraud.

• Develop – invest in the training employees to cultivate the highest talent.

• Partner – Raymond James only partners with trusted and well vetted third party vendors.

This is all done at the Raymond James Cyber Threat Center, which is a key component to the cyber security strategy. Andy then explained to all attendees the different layers of defensive measures Raymond James uses to protect financial information.

Finally, Andy gave concrete actions and best practices that all of us can use individually to keep our sensitive and private information safe and out of the hands of criminals. Those tips include:

• Secure your computers (with Antivirus, firewalls, and software updates).

• Restrict your browsing behavior.

• Strongly encrypt the files on your PC.

• Change your passwords frequently and don’t share passwords among sites. When saving passwords, it’s best to use an application on your phone or put it on a piece of paper – don’t save it as a word file on your computer! Also, when possible, opt for “two factor authorization.”

• Use multiple personal emails.

• Use a separate computer for online banking.

• Insist on having verbal/phone confirmation for “high risk” transactions.

• Back up your data! On a hard drive or in a secure cloud.

Raymond James and everyone here at The Center work diligently to protect your financial information and to stop fraud and cybercrime from affecting clients. We encourage you to watch the video and rethink your own personal practices. Don’t be one of the victims of cybercrime, instead invest in your cyber security just as you invest in your future.

Clare Lilek is a Challenge Detroit Fellow / Client Service Associate at Center for Financial Planning, Inc.

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This material is being provided for information purposes only. Any opinions are those of Clare Lilek and not necessarily those of Raymond James.

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A Day for Competition and a Day for Vision!

Contributed by: Kali Hassinger, CFP®

In previous years, The Center has held an annual Retreat at some point in December. This was always an opportunity to review the year, look to the future, and have a little bit of fun, too!  This year, however, we started a new tradition! Instead of one day to cover fun and business, we took two separate days to accomplish two very different goals – Competition and Vision! 

On December 11th, The Center hosted a holiday staff appreciation day at the Detroit Curling Club.  Yes, that kind of Curling.  The Curling that you’ve watched during the Olympics and thought, “Oh my gosh! I could totally do that!” Turns out, it isn’t that easy. Although it may look totally doable, Curling actually requires a lot of accuracy and finesse!  I have a whole new respect for Curling athletes (in addition to the respect for their incredible sense of style – I highly recommend a quick google image search for “Curling Olympic Uniforms”).

The office broke up into four teams and everyone dressed up to show their Curling spirit.  As usual (and as you may have guessed), it got pretty competitive!  There was plenty of friendly fire on the ice, but Amanda Toia was named the Curling MVP with an incredible game winning shot!  The day was set aside for fun and bonding, and it was great way to close the year.

In January, however, we used our energy for the New Year to focus on the days ahead.  “Vision” was the buzzword of the day as we brainstormed ways to improve personally and professionally. We don’t believe in complacency at The Center and we are always working toward new goals. It was a time to assess our current strategies and decide on how to improve upon them. 

A large part of the day focused on reviewing the firm’s Vision 2020 that was developed by the office in 2012. This Vision 2020 functions as an ideal guide on how the office would develop and improve by the year 2020.  As we reviewed the document, however, it became clear that The Center has already accomplished many of the goals set forth in the Vision 2020. Of course there are still matters that we are working on and ways to further improve, but it was great to see the vast amount of progress that has been made in just a few years. 

Although it was a luxury to take two days away from the office, both days proved themselves to be unique, worthwhile, and effective.  We absolutely want to thank our clients for their patience and understanding while the office was closed. Please know that we used this time to refocus and rejuvenate, but mostly to become a better firm for our clients!  

Kali Hassinger is a Registered Client Service Associate at Center for Financial Planning, Inc.

Taking a Look at Your Credit Score

Contributed by: Matt Trujillo, CFP®

If you have ever financed anything before, then you are probably familiar with the concept of your “credit score.”  This number, or score, can play a significant role in your life as it has real implications when you go to purchase a home or car, to name a few big ticket items. Most of you reading this probably have a sense of what your current score is, but have you ever wondered how that score is calculated?

Here is a quick break down of the composition:

35%: Payment History

Naturally payment history is one of the biggest components of your credit score. Have you paid your bills in the past? Did you pay them on time? 

30%: Amounts Owed

Just owing money doesn’t necessarily mean you are a high risk borrower. However, having a high percentage of your available credit being used will negatively impact your credit score.

15%: Length of Credit History

Generally having a longer credit history will increase your overall score (assuming other aspects look good), but even people with a short credit history can still have a good score if they aren’t maxing out their credit and are paying bills on time.

10%: New Credit Opened

Opening several lines of credit in a short period of time almost always adversely affects your score. The impact is even greater for people that don’t have a long credit history. Opening multiple lines of credit is generally viewed as high risk behavior.

10%: Types of Credit you have

A FICO score will consider retail account credit (i.e. Macy’s card), installment loans, mortgage loans, and traditional credit cards (Visa/ MasterCard etc). Having credit cards and installment loans with a good payment history will raise your credit score. 

Hopefully now you have a better understanding of how your score is comprised. For more information please visit www.myfico.com for tips and strategies on how to improve your score!

Matthew Trujillo, CFP®, is a Certified Financial Planner™ at Center for Financial Planning, Inc. Matt currently assists Center planners and clients, and is a contributor to Money Centered.

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(source: http://www.myfico.com/ ) This material is being provided for information purposes only. Any opinions are those of Matt Trujillo and not necessarily those of Raymond James. The information has been obtained from sources considered to be reliable, but Raymond James does not guarantee that the foregoing material is accurate or complete.

Links are being provided for information purposes only. Raymond James is not affiliated with and does not endorse, authorize or sponsor any of the listed websites or their respective sponsors. Raymond James is not responsible for the content of any website or the collection or use of information regarding any website's users and/or members.

Fourth Quarter Investment Commentary

Contributed by: Angela Palacios, CFP®

2016 kicks off with much of the same challenges as have plagued us for the second half of 2015.  The S&P 500 was up for the seventh straight year but that is where the excitement ended.  Broad markets delivered lackluster or negative returns.  The S&P 500 needed all of its dividends to get to a positive 1.38% return for 2015 while the Russell 2000 and MSCI EAFE representing small company stocks and international markets were down 4.42% and .82% respectively.

Volatility really picked up in the third quarter with a large drawdown while in the fourth quarter made up some ground.  We expect volatility to continue into the New Year as the year end brought no significant changes to our outlook.

Liftoff from Zero

The Federal Reserve Board (FED) continues to ease their foot slowly off the accelerator after years of easy money.  In December, The FED increased short term rates for the first time in nearly a decade.  This move was highly anticipated and thus bonds did not have a large knee-jerk negative reaction.  Bond markets had already priced in the rate move before it happened.

Looking forward, The FED is forecasting 4, quarter point rate increases for a total of a 1% rate increase in 2016.  The markets, as measured by interest rate futures, disagree as they are forecasting only .5% increase this year.  If The FED actually increases rates by 1% the bond market will adjust prices to reflect this leading to slight negative pressures on the prices of bonds.  Interest rates on bank accounts will lag behind the increases and likely only move upward slightly and slowly while mortgage rates should also increase slowly.

A bright spot in the bond market

The outlook for municipal bonds continues to be positive.  Puerto Rico announced a default on January 1 of $37 Million in debt but this was widely anticipated and didn’t spread into other markets.  Many municipalities continue to improve balance sheets with increased tax collection and the market as a whole seems to be on solid footing.

Bond Market Illiquidity

The negative performance in energy prices has led to increasing spreads between high yield bonds and investment grade fixed income.  When this occurs, prices on high yield bonds go down and they become harder to sell.  Over the past several years, investors have reached for yield in this category not understanding the risks involved.  This highlights the importance of understanding exactly what exposure you are taking on when investing in fixed income.

View on Emerging markets

Emerging market challenges continue into 2016.  Manufacturing in China continues to slow as well as their Gross Domestic Product growth, GDP, but the government is intervening in their stock market trying to prove they can provide a floor to asset prices. China’s slowdown has had a negative impact on commodity prices along with the glut in the oil market causing oil prices to be at their lowest levels since early 2009. 

These pressures have been brutal to emerging market country currencies that depend on exporting commodities.  In order for there to be a turnaround in this space we would need to see a change in investor sentiment, stronger economic growth, and a weakening of the U.S. dollar which we don’t see as likely in the near term.

The Economy

Locally our economy continues its slow grind in the positive direction.  Consumer spending remains strong with low gas prices and strong job growth increasing households’ purchasing power.  Housing is a bright spot and as rates increase borrowing terms may be relaxed a bit by lenders which would be helpful.  Inflation may start to pick up slightly from very low levels now.  As energy prices find a bottom this would cease being a negative effect on inflation and may even start to add to year-over-year inflation as we start to rise off the bottom.

Here is some additional information we want to share with you this quarter:

Checkout my research summary in the quarterly Investment Pulse.

I delve into Out of the Box Investing with a look at alternative investments.

Melissa Joy, CFP®, Partner, chimes in with a timely reminder of 5 Questions to ask yourself when stocks are down.

Nick Boguth, Client Service Associate, giving his insight on Style Box Investing basics.

Check out an article on Diversification from Jaclyn Jackson, Research Associate, to help better understand the benefits.

Vice President and Global Market Strategist for J.P. Morgan, David Lebovitz, and The Center's Melissa Joy, CFP®, will discuss timely market and economic insights. REGISTER for the webinar!

Careful diversification and financial planning are tools to help support investor patience in choppy markets.  Don’t forget Warren Buffett’s wise advice, “The stock market is a device for transferring money from the impatient to the patient.”  Patience remains a cornerstone to our investment process here at The Center. We appreciate your continued trust.   If you have any questions or would like to discuss further, do not hesitate to reach out to us!

On behalf of everyone here at The Center,

Angela Palacios CFP®
Director of Investments
Financial Advisor

Angela Palacios, CFP® is the Portfolio Manager at Center for Financial Planning, Inc. Angela specializes in Investment and Macro economic research. She is a frequent contributor to Money Centered as well as investment updates at The Center.

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David Lebovitz and JP Morgan are not affliated with Raymond James. The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. This material is being provided for information purposes only and is not a complete description, nor is it a recommendation. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any opinions are those of Angela Palacios and not necessarily those of Raymond James. Past performance may not be indicative of future results. Investing involves risk and you may incur a profit or loss regardless of strategy selected. Investing in emerging markets can be riskier than investing in well-established foreign markets. International investing involves special risks, including currency fluctuations, differing financial accounting standards, and possible political and economic volatility. There are special risks associated with investing with bonds such as interest rate risk, market risk, call risk, prepayment risk, credit risk, reinvestment risk, and unique tax consequences. The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market. The Russell 2000 Index measures the performance of the 2,000 smallest companies in the Russell 3000 Index, which represent approximately 8% of the total market capitalization of the Russell 3000 Index. The MSCI EAFE (Europe, Australasia, and Far East) is a free float-adjusted market capitalization index that is designed to measure developed market equity performance, excluding the United States & Canada. The EAFE consists of the country indices of 22 developed nations. Keep in mind that individuals cannot invest directly in any index, and index performance does not include transaction costs or other fees, which will affect actual investment performance. Individual investor's results will vary.

Don’t Lose Faith in Diversification

Contributed by: Jaclyn Jackson

As investors, we’ve always been taught that portfolio diversification is essentially for good portfolio performance.  Yet, we’ve experienced three consecutive years that have some of us second guessing that old adage.  Case and point, evaluating the broad bull market from March 2009-December 2012 and the mostly flat market from December 2012–September 2015, it is clear that sometimes diversified asset classes perform well and at other times they do not.  During the period of March 2009 through November 2012, diversification generally helped returns.  From December 2012 until August 2015 diversification away from any “core” asset classes generally hurt returns.

Source: PIMCO

Source: PIMCO

Core asset classes (top) reflect the overall positive direction of the most common markets during both periods. Comparatively, diversified asset classes (bottom) generally helped portfolio returns from 2009-2012 as indicated by the blue lines showing positive returns, but thereafter generally detracted from returns as indicated by the red bars with low to negative performance. Based on this data, it’s easy to consider using a core-only investment strategy without the frills (or frustrations) of diverse investments.  However, there is one key point that we can draw from the diversified asset graph; unlike core assets, diversified assets don’t move in tandem with the market.  Believe it or not, that’s actually what’s great about them.

Many people think diversification is meant to improve returns, but it would be useful to reframe that idea; diversification is meant to improve returns for the level of risks taken. In other words, diversified investments work to balance core investments during down or volatile markets.  Let’s look back at the market bottom of 2009.

The graph illustrates that a non-diversified (stock-only) portfolio lost almost double the amount of a diversified portfolio.  Moreover, the diversified portfolio bounced back to its pre-crisis value more than a year before the stock-only portfolio.  This type of resilience is especially important for retired investors that rely on income from their portfolios. 

Not only is portfolio diversification useful for people who’ve met investment goals, it is equally helpful to long-term investors.  For investors still working toward financial goals, portfolio diversification can help produce more consistent returns, thereby increasing the prospects of reaching those goals.  The diagram below ranks the best (higher) to worst (lower) performance of 10 asset classes from 1995-2014.  The black squares represent a diversified portfolio.

Source: SPAR, FactSet Research Systems Inc.

The black squares generally middle the diagram.  As evident, the range of returns for a diversified portfolio was more consistent than individual asset classes.  Returns with less variability are more reliable for setting long-term investment goals.

Admittedly, portfolio diversification over the last three years has made it difficult for many to stick with their investment strategy.  Yet, portfolio diversification still holds merit: it can help mitigate portfolio risk; it can boost portfolio resilience; and it can provide investors the consistency necessary to set and meet financial goals.

Jaclyn Jackson is a Research Associate at Center for Financial Planning, Inc.

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This material is being provided for information purposes only and is not a complete description, nor is it a recommendation. Any opinions are those of Jaclyn Jackson and not necessarily those of Raymond James. The information has been obtained from sources considered to be reliable, but Raymond James does not guarantee that the foregoing material is accurate or complete. Diversification and asset allocation do not ensure a profit or protect against a loss. Investing involves risk and investors may incur a profit or a loss regardless of strategy selected. Past performance is not a guarantee of future results. The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market. Keep in mind that individuals cannot invest directly in any index, and index performance does not include transaction costs or other fees, which will affect actual investment performance. Individual investor's results will vary.

The historical performance of each index cited is provided to illustrate market trends; it does not represent the performance of a particular MFS® investment product. It is not possible to invest directly in an index. Index performance does not take into account fees and expenses. Past performance is no guarantee of future results. The investments you choose should correspond to your financial needs, goals, and risk tolerance. For assistance in determining your financial situation, consult an investment professional. For more information on any MFS product, including performance, please visit mfs.com. Investing in foreign and/or emerging market securities involves interest rate, currency exchange rate, economic, and political risks. These risks are magnified in emerging or developing markets as compared with domestic markets. Investing in small and/or mid-sized companies involves more risk than that customarily associated with investing in more-established companies. Bonds, if held to maturity, provide a fixed rate of return and a fixed principal value. Bond funds will fluctuate and, when redeemed, may be worth more or less than their original cost. Note that the diversified portfolio’s assets were rebalanced at the end of every quarter. Diversification does not guarantee a profit or protect against a loss. to maintain the equal allocations throughout the period. Standard deviation reflects a portfolio’s total return volatility, which is based on a minimum of 36 monthly returns. The larger the portfolio’s standard deviation, the greater the portfolio’s volatility. Investments in debt instruments may decline in value as the result of declines in the credit quality of the issuer, borrower, counterparty, or other entity responsible for payment, underlying collateral, or changes in economic, political, issuer-specific, or other conditions. Certain types of debt instruments can be more sensitive to these factors and therefore more volatile. In addition, debt instruments entail interest rate risk (as interest rates rise, prices usually fall), therefore the Fund’s share price may decline during rising rate environments as the underlying debt instruments in the portfolio adjust to the rise in rates. Funds that consist of debt instruments with longer durations are generally more sensitive to a rise in interest rates than those with shorter durations. At times, and particularly during periods of market turmoil, all or a large portion of segments of the market may not have an active trading market. As a result, it may be difficult to value these investments and it may not be possible to sell a particular investment or type of investment at any particular time or at an acceptable price. https://www.mfs.com/wps/FileServerServlet?articleId=templatedata/internet/file/data/sales_tools/mfsvp_20yrsb_fly&servletCommand=default

Investment Basics: Style Box Investing

Contributed by: Nicholas Boguth

Among the plethora of data points used to describe any security, there are two that are fundamental for a basic understanding of  stocks and bonds. For equities, the two pieces of data are market capitalization (size) and investment style (value/growth). For fixed income securities, the data points are interest rate sensitivity (duration) and credit quality.  These characteristics are important parts of every security’s risk/return profile, and are key in determining if and how an investment should fit in your portfolio.

In order to help investors easily identify these two key characteristics of securities, Morningstar created a useful tool – the style box. There is a separate box for equities and fixed income securities. The equity style box shows value to growth investment styles on the horizontal axis and small to large market caps on the vertical axis.  For fixed income, the horizontal axis shows limited to extensive interest rate sensitivity and the vertical axis shows low to high credit quality.

As investors, the first decision you have to make is to determine your capacity for risk. Once determined, you are able to choose investments that align with the level of risk you are willing to take.  Growth stocks typically carry more risk than value stocks, and small-cap stocks are usually riskier than large-cap.  Bonds can have limited to extensive interest rate risk based on duration (longer duration = more interest rate risk), and a bond with low credit quality is normally riskier than one with high credit quality.  Looking at the style box, this means that a security that falls in the bottom-right square will typically bear more risk (and hopefully opportunity for more return), and a security that falls in the top left box will typically have less risk. 

The style box is especially useful because not only does it indicate those fundamental data points of a single security, but you can plot all your investments on it to see the characteristics of your entire portfolio as well.   Not every individual security chosen for your portfolio has to match your exact risk profile.  In fact, when you build a portfolio, you may diversify and end up with securities that scatter all over the style box.  The suitability of investments refers to your portfolio as a whole, not individual investments, so it is acceptable to have some lower risk and some higher risk securities.  That being said, the style box does not operate on tic-tac-toe-like rules where a diversified portfolio is one with all of the boxes checked off.  It does not explain everything there is to know about a diversified portfolio, but it is a very useful tool that is essential to investment basics.

Nicholas Boguth is a Client Service Associate at Center for Financial Planning, Inc.

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This material is being provided for information purposes only and is not a complete description, nor is it a recommendation. Any opinions are those of Nick Boguth and not necessarily those of Raymond James. The information has been obtained from sources considered to be reliable, but Raymond James does not guarantee that the foregoing material is accurate or complete. Investing involves risk and investors may incur a profit or a loss regardless of strategy selected. Prior to making an investment decision, please consult with your financial advisor about your individual situation. Diversification and asset allocation do not ensure a profit or protect against a loss. Investments mentioned may not be suitable for all investors. Past performance is not a guarantee of future results.