It's a nice problem to have. With the stock market up more than 26 percent in the first 11 months of 2013, investors are facing the kind of decisions that come when sitting on a large gain. Again, it's a pleasant dilemma to face, but one that has to be taken seriously. Years this strong don't come along very often, and it's important to know how to make the most of the value that's been created. Here are five moves you should consider if your retirement portfolio has taken part in the stock market's powerful rally this year.
1. Keep your retirement contributions upDuring the high-flying stock market of the late 1990s, many individuals -- not to mention several institutional retirement plans -- were lulled into believing they could take a "contribution holiday." This meant not putting money into their retirement plans, since strong stock returns had their market values ahead of their funding projections. Of course, when a dozen years of disappointing returns followed, those same retirement plans went from being ahead of schedule to badly behind. You need both your contributions and investment returns to build your retirement nest egg, and your contributions are the only thing you can count on year after year.
2. Focus on future income, not current valueDon't get carried away with how big your portfolio looks after a strong year. You are bound to have some ups and downs along the way, but if you use a retirement calculator to focus on how much retirement income your savings could produce, it will give you a much more stable perspective.
3. Reset your asset allocationWhile stocks were way up this year, bonds were largely down, while conservative vehicles such as savings and money market accounts produced virtually no return. As a result, your asset allocation may have gotten a little skewed, with stocks growing to represent a larger portion of your overall asset mix. It is important to keep your asset allocation in line with your risk parameters, so this might require resetting your asset allocation to bring your stock holdings back into line.
4. Rotate sectorsEven with stocks looking a bit pricey, getting out of the market is not a realistic option for most retirement programs. You need long-term growth, and alternatives such as bond yields and savings account rates are not very attractive. However, even while you keep a healthy stock representation, consider rotating from hot sectors of the market to more undervalued ones. This gives you an opportunity to sell your winners without quitting on stocks altogether.
5. Keep taxes in perspectiveSome people are loathe to sell because of the tax consequences of realizing a gain. However, if this results in you holding onto overpriced stocks for too long, the volatility you suffer could be far worse than any tax liability. Remember, a tax liability represents just a portion of your gain on the stock, while market volatility affects the entire market value of the stock.
People feel compelled to take action when the market is down, and tend to get complacent when it is up. It actually should be just the opposite: It's important not to panic out of a down market, and it's equally important to take advantage of gains when they occur.