For most people, their biggest fear when facing retirement is the possibility of outliving their money. With Australians now living longer, and returns from investment markets likely to be constrained, the timing for more than 5 million baby boomers about to leave the workforce couldn’t be worse. As many of these investors experienced significant drawdowns in the wake of the Global Financial Crisis, their portfolios cannot afford to fail them again.
Demographic matter
Not only have baby boomers never saved like their parents and grandparents, but in addition to this, people are living longer. According to the Australian Bureau of Statistics, in 2050 the average life expectancy for men in Australia will rise from the current age of 85 to 93, and women are expected to live to an average age of 96. All in all, it appears that typical share-and-bond investments probably won’t support retiring baby boomers like they did 30 years ago. Against this backdrop, many retirees are likely to experience significant shocks to their lifestyles when they retire, or sometime after that. A new way of thinking is needed!
Beat inflation with growth investments
One of the greatest challenges in retirement is ensuring your investments keep pace with inflation. While you can control some of your discretionary expenditure, you can have no control over the level at which inflation is likely to rise. Even if inflation is low, it still has a significant long-term effect on your wealth and will eat away at your retirement savings.
Fortunately you can mitigate inflation and meet the challenge of funding retirement by choosing investments that can outpace inflation over time.
Steady income that grows over time: The case for dividend-paying equities
One way to access a steady source of income with exposure to capital growth is through dividend-paying equities. In addition to the growth available from equities, they can also provide a remarkably stable income for investors, that can also grow as a company’s share price grows.
Areas of opportunity
A market which is currently providing attractive income opportunities is Australian equities. As shown in the chart below, dividends from Australian equities have been more stable than cash for the past 50 years. The chart plots the frequency distribution of official Australian cash rates and Australian dividend yields, taking one sample point for each of the past fifty one years. It can be seen that, in the past, dividends have been far more tightly clustered (or more reliable) than cash rates.
Australian equities have been more stable than cash
Watch out for the red flags
It’s critical when investing in income-producing equities that investors focus on opportunities that have a track record of delivering reliable earnings and distribution growth. Yes, healthy dividends are important, but they shouldn’t be at the expense of all earnings growth. An investor needs to ensure that future earnings, and therefore dividends, can be maintained or can grow. It’s worth remembering that high dividend stocks don’t always equate to sustainable income. There have been many examples where companies with negative earnings outlooks, or highly geared or distressed companies, have issued high dividends. These dividend payments have eaten into the company’s capital base, making it difficult for the organisation to invest for its future growth. So, it pays to invest with a manager who will thoroughly research stocks, understand the fundamental characteristics of the company they’re investing in, and ensure your retirement income is sustainable.
An income investment checklist!
Look for companies that:
- Deliver the expected dividend
- Can maintain their dividends over time
- Don’t reduce the total return of the portfolio
- Are likely to outperform the overall market
Michael Price joined AMP Capital in January 2012 to assume responsibility for the AMP Capital Sustainable Share Fund, and to develop an income-focussed Australian equity strategy. Michael joined from ING Investment Management where he held a range of roles over 17 years.
