Investing is both an art and science. It involves great amount of experience and precision to be right. Investing depends on multiple factors such as age, income, liquidity needs, goals etc. Each factor will influence the kind of investments or the asset classes to choose in a very different way. On the basis of commonality in certain factors like age or income we can model a desirable asset allocation.

Human capital and financial capital denote the net worth of an investor, but both highlights and signify a different meaning all together. Have you ever thought that your regular income will be the most valuable asset than the financials that you own? Probably not. Human capital is an intangible asset that represents the present value of all the future income and it cannot be sold or bought. Any investments you make to increase the future income like gaining a skill or higher education is considered investing in human capital. Human capital involves its own kind of risks i.e., the nature of job, stability in the market for that job etc. For ex: Being a teacher will be the safest job with very low risk of getting fired or instability due to market cycles.

Financial capital involves both tangible and intangible assets which can be saved or invested to accumulate value over time. Personal assets like autos, clothes etc. are consumed over time and derive personal wealth from their value-in-use. Whereas investment assets include stocks, bonds, real estate etc. which have a potential to increase value over time. Mixed assets like jewelry, artwork and residence have characteristics of both personal assets and investment assets.

Human capital and Financial capital move in opposite directions. When you first start out in your career, you have years of earning power that await you. But your financial capital is low because you probably haven’t saved very much. As you age, you have the opportunity to use your human capital to increase your financial capital. It is an opportunity because financial capital is not a given, rather it is earned through wages, savings, and smart investment decisions. Even if 2 investors have same amount of financial capital, their human capital might not be same.

During your working career, the risk characteristics of your human capital should affect how you allocate your financial capital. Factors like job stability, income volatility, and the industry in which you work should all be considered when selecting an asset allocation for your financial capital. It is also important to keep in mind that human capital’s correlation with the stock market is a key element of asset allocation and should not be overlooked when making any type of investment decision.

For example, A highly specialized chemical engineer working in the oil industry would not want to have a portfolio heavily weighted in the energy sector, or even his/her employer’s stock. Career specialization makes human capital concentrated and risky, from an industry standpoint. As such, the engineer can compensate for this risk by investing his/her financial capital in industries and companies with little or no correlation to his/her human capital.

It is very important to plan for our goals and liquidity needs at different stages of life. Retirement planning will be of utmost importance at any point of our life. It is necessary for an appropriate asset allocation as per age to meet our goals and liquidity needs. Only a knowledgeable person can help one to invest appropriately considering the factors of human & financial capital.

Beginning retirement planning- 20s

Human capital will be of utmost importance. You might have graduated recently from college or investing into human capital by pursuing a higher education. You might have to pay off debts or have very limited savings. But as one starts working, their human capital is high to take sufficient risks. By investing early, one can earn the benefits of compounding. Again, investing into right assets is what matters the most. Considering these factors below is the allocation which can be done,

Stocks: 80% to 90%

Bonds: 10% to 20%

Career focused- early 30s

Human capital will still be a larger asset in the economic balance sheet. Significant family and housing expenses persists, but planning for retirement should also be a consideration. As the no. of working years reduce, we have to move into a safer allocation. At this point, debt allocation has to be increased compared to 20s.

Stocks: 70% to 80%

Bonds: 20% to 30%

Career development- 35 to 50

Upward career mobility and income growth will be the major factors, which is an added benefit to increase allocations for retirement. There might be some expenses related to children’s education in the 40s, so liquidity at this stage also has to be considered. Therefore, it’s important to increase debt allocation and reduce equity further.

Stocks: 60% to 70%

Bonds: 30% to 40%

Peak accumulation- 50 to 65

You might have reached or moving towards maximum earnings. It’s time to reduce investment risks and stress more on the objectives of investing. Career risk will be high as flexibility to switch companies or change career is very limited. Planning for liquidity further peaks up. It’s also important to choose fewer volatile investments and plan for risk reduction along with tax planning.

Stocks: 50% to 60%

Bonds: 40% to 50%

Retirement- After 65

Very important to plan for income rather than growth for this point in time. Some people take up jobs with less stress or seek a new career. If it is well planned, this is the most comfortable period of income and sufficient assets. Therefore, it’s important to plan for retirement from an early age. Liquidity to fund for any health issues becomes utmost priority. Risk should be very limited.

Stocks: 30% to 40%

Bonds: 60% to 70%