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Lifecycle investing is growing in popularity in the industry, where people in their 20s and 30s are invested into high risk portfolios (equities) and people approaching retirement are transitioned into low risk portfolios (fixed income and annuities).

This makes perfect sense. However, looking at the portfolio compositions of the pension funds "most risky" category in my home country, they are actually quite conservative; very large allocation to developed market equities with a little in fixed income. This actually seems to be a medium risky solution, given the safe haven nature of GBP and USD combined with the small EM allocation plus no dedicated allocation to small cap or the well known factor premiums. They also have a strong home bias which really annoys me (no doubt this is to reduce tracking error with their peers, not to improve customer returns or risk profile!)

I am in my mid 20s and do not plan to retire for 40 years, so I do not feel that this makes sense for my profile. At my age I feel I should invest in a diversified emerging markets small to mid cap portfolio. Max risk and max returns. I haven't run a monte carlo of this (given the risk/reward expectations) but I expect a priori that this will outperform other allocations in the large majority of sample paths over a 40 year horizon. If I really wanted to do this, I could, since my country has self managed pension fund laws.

I have quite a high tolerance for risk and even if my account crashes by 50% in 8 years, I am OK with that. I understand risk and expectations. I also work in an adjacent industry.

Can somebody please critique this? Am I being sensible? Are my assumptions right and do my conclusions follow from my assumptions given by profile (40 year working life, assumptions about EM superior returns, and my risk-neutral preferences)?

Thank you.

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"Lifecycle investing is growing in popularity in the industry"

  1. this too shall pass
  2. maybe you'll get lucky and retire with the expected returns
  3. but what if you don't?
  4. remember that irrational markets quote?

You've got a great asset in your youth, however you are not diversified (experience & perspective).

...retired investment advisor

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That you want a high risk, high reward investment makes perfect sense. What is a potential downside to this is that emerging markets can go down together. Emerging markets generally provide products (China) or services (India) to wealthy countries. If these wealthy countries decide to have high import taxes on goods from outside the country (protectionism), you would have a huge problem. These protectionist policies could last several decades. Other emerging markets generally rely on oil. I would split my investments between these and invest some money in first world countries.

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Your observations about being able to tolerate a higher risk profile is good, but limiting that to your managed investment choices of "emerging markets" is problematic. It is a false dilemma as there are plenty of other passive investments.

The answer to your root question about whether emerging markets are better investments in your 20s than the conservative retirement funds is no. They are worse, as passive investments.

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I think you are not being sensible for these reasons:

  • It is desirable to invest in more than one asset class and easy to do so in a way that complements your objectives.
  • Committing to one sector is limiting opportunities. For a risk tolerant individual like yourself, many opportunities exist.
  • You are depending on your current level of observation and interpretation of events. You owe it to your future to do more research before committing.

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