This approach will naturally lead to a strategic portfolio with very different exposures to those of traditional income strategies. For example, a portfolio built in this way will tend to have a greater allocation to equities with high yields and low dividend pay-out ratios, as markets exhibiting these characteristics tend to suffer less from dividend cuts as the income provided is not dependent upon maintaining high levels of profitability. Additionally, such an approach will tend to favour fixed-income assets that combine credit spreads with interest rate exposure – such as emerging market bonds – over those bonds that are dominated by either yields or spreads (for example, gilts and high yield corporate bonds).
While these differences may result in a lower initial yield, a stability-focused approach should help protect the investor from overpaying for risky higher-yield assets and provide the adviser with a more realistic at retirement investment strategy.
Dan Kemp is co-head of investment consulting and portfolio management at Morningstar
Key Points
The most important difference between the retirement-focused portfolios of today and the past is that pension portfolios are more susceptible to non-investment factors.
Fund managers have also been re-orienting their portfolios towards higher-yielding assets in an attempt to offer a competitive yield.
For an income portfolio to represent an effective long-term replacement for earned income, it must be focused on the sustainability of the income stream and not just the starting yield.
