If you are retired and no longer have the life boat of employment and a regular salary cashflow to get you through the storms you need to secure your journey with a safer vessel, such as bonds. Bonds will diversify your portfolio and allow you a more comfortable journey
About a month ago I read an article called Timing badly: generating poor returns in good strategies
, by Iain Middlemiss, published on the Cuffelinks’ website.
The note reminded me of an MLC fund manager I knew some years ago who was celebrating the fact that his fund had returned more than 10% per annum over 10 years. But, he was shocked to learn his clients had only earned 3% p.a. on average. A poor return for what should have been a good result. I wondered how this was possible.
The fund manager explained that over the ten years the sharemarket had gone through some big cyclical swings and investors were too nervous to keep holding units in the fund when share prices were falling. They sold at low points but failed to reinvest in time to take advantage of the upswings. Herein lies the rub – the journey you take to reach your goals matters – not just the end result.
Unfortunately, this sort of tragedy is played out all too often. Shares prices are volatile. You need to be comfortable with that or you risk making the wrong decisions at the wrong times. If you don’t have the stomach to weather the storms and stay the distance, you need to think about altering your portfolio allocation strategy. Why suffer seasickness on a speed boat when you can cruise on an ocean liner and still reach your destination?
The graph below is a theoretical depiction of various investment journeys. It shows all three investment strategies reaching their goal but you’ll note the most volatile, shown in red, experiencing some deep lows at which point investors sell.
The key point here is that a high allocation to shares will display the most – volatility (red line), worrying the investor and at the low points they may sell out as they can’t take the discomfort any longer.
There are many factors at play when investing and it is not always realistic for investors to “trust that tomorrow will be fine and hold on for the ride”. Where fund managers can stay the distance because it is not their money and they don’t have family members and lifestyle expenses to consider.
If you are retired and no longer have the life boat of employment and a regular salary cashflow to get you through the storms you need to secure your journey with a safer vessel, such as bonds. Bonds will diversify your portfolio and allow you a more comfortable journey.
The other thought that comes to mind is that an individual investor’s needs are more complex than simply achieving an ‘average’ return. In the cases of SMSFs, there are many variables: the ages of those in the fund, their states of health, stages of life and aspirations, and their risk appetite with different cashflow needs. Few fit the ‘average’.
Ability to weather the storms
Being a responsible trustee of an SMSF is like being the captain of a yacht navigating the Sydney to Hobart. The point is not just to get your yacht to the other end but also to ensure all your passengers and cargo remain on the vessel. Avoiding a storm is a much wiser path than choosing to sail through the middle and see what gets washed overboard. Choose a sailing vessel and a course that best handles the weather - one with more balance and predictability.
Investors in retirement have a limited risk tolerance, beyond which they withdraw
Investors in retirement have a limited tolerance to risk, volatility or loss, whatever you choose to call it, and this must be taken into consideration by the trustee. Trustees need to protect their valuable cargo, both capital and income, and ensure their funds don’t capsize in financial storms, inevitable as they are.
Diversified asset allocation is critical in retirement
Once individuals move into pension phase and lose their primary source of cashflow - wages – it is unrealistic to expect them to be willing to experience such risk and ‘hold on’ until investments recover.
Many brokers have a biased view that shares or equity-like securities are the answer to all of our needs. If you need income they will say “buy shares”. If you need capital growth they say “buy shares”. If you need low volatility they say “buy listed hybrids” and the list goes on.
The brokers also have all sorts of elegant names for poorly performing share markets. They will tell you “the market has taken a breather”, “there is a slight softening going on”, “the market got ahead of itself” and other such words of comfort which all translate to “you’ve lost money”.
We are all individuals and one asset class does not meet all our needs. Asset allocation and the appropriate division across shares, bonds, cash and property is the only true way to mitigate risk and volatility.
Protect your cargo and choose a reliable vessel to embark with. It’s a lot more comfortable in retirement with money than without so don’t risk it.
Remember, retirement is for cruises on calm seas, not speed boats and seasickness.