Equities Are Expensive. Bond Yields Are Low. How Can Income Needs Be Met? Enter Model Strategies.
For the final wave of baby boomers entering retirement over the next decade, a portfolio capable of producing steady income is paramount. You may have heard variations of these questions from your clients who are thinking about retirement: How much income can I take today? How do I increase the chances that my portfolio will continue to grow and produce income in the future? How do I manage the appropriate level of risk?
Threading the needle between those objectives is hard enough. Today’s environment adds low interest rates, uncertainty about the timing of future rate increases and the possible need to generate income for a long period of time. It’s easy to understand why the search for a consistent and reliable stream of income may be one of the biggest challenges facing advisors.
Income-seeking investors have encountered an interesting yield environment and increased risk for an extended period of time. Gone are the days of the early 1980s when investors could earn an 8-10% yield on a 60% bonds/40% equities portfolio1, or even the mid-2000s, when the 10-year U.S. Treasury yield stood at 6+%. Today’s 10-year Treasury yield hovers around 1.5%, similar to the dividend yield of the S&P 500 Index (see chart below). Investors probably need to look at broader opportunities for sources of income.
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Source: LTM Yield—FactSet. Equities represent the Russell 1000 Index through February 1990 and the S&P 500 Index thereafter. Fixed Income represents Yield to Worst on Bloomberg US Aggregate Bond Index. Index returns represent past performance, are not a guarantee of future performance, and are not indicative of any specific investment.
Advisors are tasked with helping their clients select a portfolio with the appropriate balance between generating current income and the potential to grow and provide future income. Recent volatility has made some investors reluctant to put their money into the market, period. Investors may still have flashbacks of the 2020 COVID pullback, the Great Financial Crisis of 2008, and the 2001 tech bubble.
As an advisor, how can you help these clients? How do you generate income for them?
Diversification can be a first step to seeking additional yield while addressing some of those market fears. Investing in different asset classes beyond traditional equities and investment grade or government Treasury bonds can provide great sources of income. For example, global listed infrastructure, emerging markets debt, high yield bonds and MLPs (master limited partnerships) can offer higher yields than traditional stocks and bonds. Generally, yields improve when you move out on the risk spectrum. However, adding these alternative asset classes to a portfolio, while potentially helping improve income, may also lead to higher volatility, as demonstrated in the following chart.
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Cash: S&P 0-3 Month T-Bill Index; U.S. Treasuries: Bloomberg U.S. Treasury Index; Credit: Bloomberg U.S. Credit Index; Long Treasuries: Bloomberg Long U.S. Treasuries Index; Global Infrastructure: S&P Global Infrastructure Index; U.S Aggregate Bonds: Bloomberg U.S. Aggregate Bond Index; Global REITs: FTSE EPRA/NAREIT Developed Index; Emerging Market Debt: Bloomberg Emerging Markets Debt Index; U.S High Yield: Bloomberg High Yield Corporate Index; Global High Yield: Bloomberg Global High Yield Index; MLPs: Alerian MLP Index. Index returns represent past performance, are not a guarantee of future performance and are not indicative of any specific investment.
Some of these assets have provided one-year results that are scary, especially to those more conservative investors entering retirement years. This is where diversification and portfolio management expertise become invaluable to the process. Combining these higher income-producing assets into a portfolio mix that can generate a consistent income stream and a more consistent return pattern is the key to helping income investors meet their financial goals. If you’re not thinking about this today … you should. Your clients approaching or in retirement are likely to be focused on preservation of wealth while sustaining and generating income.
What’s the solution?
As an advisor, how do you best approach this challenge of managing income portfolios? Many of these asset classes (global infrastructure, emerging markets debt, etc.) are not typical exposures found in a lot of investor portfolios, especially more conservative ones seeking income. The risks and performance patterns of these asset segments are unique and it may take time for you to come up to speed. It takes a while to better understand the characteristics and best ways to implement such strategies. For example, how much of the portfolio? How big an allocation? What correlations are there with other asset classes? And, active or passive? Advisors have a couple of options: rapidly ramp up that learning curve, on top of all other client activities, or look to partner with an outsourced investment provider.
Consider partnering with a provider that can provide model strategies designed to generate income. These models can make it more practical to implement an income outcome-oriented approach across the client base:
- Models can free up advisors' time for additional consulting on financial needs.
- Models are engineered toward designated investment outcomes and avoid artificial performance chasing.
- Models are insightfully diversified, creating a more consistent return pattern that keeps investors from making bad moves during volatile times.
- Models are designed to manage the downside risk, which we believe leads to better investment outcomes.
As our colleague Mike Smith has noted: “Model strategies grant advisors the advantage of providing professionally managed investment solutions while refocusing the time and resources necessary to nurture and grow client relationships—the lifeblood of any practice.”
Studies have shown that advisors who outsource investment management to an asset manager like Russell Investments can save 7.7 hours a week on research and stock picking (among other tasks).2 That gives them an extra day every week to better engage with clients, uncover hidden assets, retain assets with existing clients or close new business—not to mention the time available to invest back in a better work-life balance or their families.
Choose the solution that matches your outcome.
The bottom line
In today’s low interest-rate environment, it’s challenging to create a portfolio that meets investors’ income needs. Advisors can help achieve this through adopting a models-based approach targeting current and future income needs—specifically, a model strategy that provides exposure to a diverse combination of income-producing and growth assets that can navigate the challenges confronting investors looking for long-term income production. For advisors with clients that would benefit from such portfolios, Russell Investments has solutions to aid in that transition.
1 Hypothetical portfolio represented by 60% Bloomberg U.S. Aggregate Bond Index, 40% S&P 500® Index.
2 Source: https://static.twentyoverten.com/5e0f642709752828dbb0c6e0/-mjyNOiwG/Outsourcing-Money-Management-article4.pdf, AssetMark, 2019.
Disclosures
These views are subject to change at any time based upon market or other conditions and are current as of the date at the top of the page. The information, analysis, and opinions expressed herein are for general information only and are not intended to provide specific advice or recommendations for any individual or entity.
This material is not an offer, solicitation or recommendation to purchase any security.
Forecasting represents predictions of market prices and/or volume patterns utilizing varying analytical data. It is not representative of a projection of the stock market, or of any specific investment.
Nothing contained in this material is intended to constitute legal, tax, securities or investment advice, nor an opinion regarding the appropriateness of any investment. The general information contained in this publication should not be acted upon without obtaining specific legal, tax and investment advice from a licensed professional.
Please remember that all investments carry some level of risk, including the potential loss of principal invested. They do not typically grow at an even rate of return and may experience negative growth. As with any type of portfolio structuring, attempting to reduce risk and increase return could, at certain times, unintentionally reduce returns.
The information, analysis and opinions expressed herein are for general information only and are not intended to provide specific advice or recommendations for any individual entity.
Frank Russell Company is the owner of the Russell trademarks contained in this material and all trademark rights related to the Russell trademarks, which the members of the Russell Investments group of companies are permitted to use under license from Frank Russell Company. The members of the Russell Investments group of companies are not affiliated in any manner with Frank Russell Company or any entity operating under the "FTSE RUSSELL" brand.
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Russell Investments Financial Services, LLC, member FINRA, part of Russell Investments.
Fund objectives, risks, charges and expenses should be carefully considered before investing. A summary prospectus, if available, or a prospectus containing this and other important information can be obtained by calling 800-787-7354 or by visiting russellinvestments.com. Please read a prospectus carefully before investing.
Please remember that all investments carry some level of risk, including the potential loss of principal invested. They do not typically grow at an even rate of return and may experience negative growth. As with any type of portfolio structuring, attempting to reduce risk and increase return could, at certain times, unintentionally reduce returns.
Mutual Fund investing involves risks, principal loss is possible.
Model Strategies are exposed to the specific risks of the funds directly proportionate to their fund allocation. The funds comprising the strategies and the allocations to those funds have changed over time and may change in the future. Investments that are allocated across multiple types of securities may be exposed to a variety of risks based on the asset classes, investment styles, market sectors, and size of companies preferred by the investment managers. Investors should consider how the combined risks impact their total investment portfolio and understand that different risks can lead to varying financial consequences, including loss of principal. Please see a prospectus for further details.
Diversification and strategic asset allocation do not assure profit or protect against loss in declining markets.
Alternative strategies may be subject to risks related to equity securities; fixed income securities; non-U.S. and emerging markets securities; currency trading, which may involve instruments that have volatile prices, are illiquid or create economic leverage; commodity investments; illiquid securities; and derivatives including futures, options, forwards and swaps.
Investments in infrastructure-related companies have greater exposure to adverse economic, financial, regulatory, and political risks, including governmental regulations. Global securities may be significantly affected by political or economic conditions and regulatory requirements in a particular country.
Declines in the value of real estate, economic conditions, property taxes, tax laws and interest rates all present potential risks. Investments in international markets can involve risks of currency fluctuation, political and economic instability, different accounting standards, and foreign taxation.
Bond investors should carefully consider risks such as interest rate, credit, default and duration risks. An increase in volatility and default risk are inherent in portfolios that invest in high-yield (“junk”) bonds or mortgage-backed securities, with exposure to sub-prime mortgages. Generally, when interest rates rise, prices of fixed income securities fall. Interest rates in the United States are at, or near, historic lows, which may increase a Fund’s exposure to risks associated with rising rates. Investment in international and emerging market debt is subject to currency fluctuations and to economic and political risks.
Certain underlying Funds within the model strategies may invest in derivatives, including futures, options, forwards and swaps. Investments in derivatives may cause the Fund’s losses to be greater than if it invests only in conventional securities and can cause the Fund to be more volatile. Derivatives involve risks different from, or possibly greater than, the risks associated with other investments. The Fund’s use of derivatives may cause the Fund’s investment returns to be impacted by the performance of securities the Fund does not own and result in the Fund’s total investment exposure exceeding the value of its portfolio.
Investments that are allocated across multiple types of securities may be exposed to a variety of risks based on the asset classes, investment styles, market sectors, and size of companies preferred by the investment managers. Investors should consider how the combined risks impact their total investment portfolio and understand that different risks can lead to varying financial consequences, including loss of principal. Please see a prospectus for further details.
Indexes are unmanaged and cannot be invested in directly. Returns represent past performance, are not a guarantee of future performance, and are not indicative of any specific investment.
S&P 0-3 Month T-Bill Index: Designed to measure the performance of U.S. Treasury bills maturing in 0 to 3 months.
Bloomberg U.S. Treasury Index: Index of public obligations of the U.S. Treasury with remaining maturities of one year or more.
Bloomberg U.S. Credit Index: Representative of publicly issued, SEC-registered U.S. corporate and specified foreign debentures and secured notes.
Bloomberg Global Credit Index: Tracks investment-grade government, corporate, agency, and mortgage-related bonds in markets outside the U.S.
Bloomberg Long U.S. Treasuries Index: Includes all publicly issued, U.S. Treasury securities that have a remaining maturity of 10 or more years, are rated investment grade, and have $250 million or more of outstanding face value.
S&P 500® Global Infrastructure Index: Provides liquid and tradable exposure to 75 companies from around the world that represent the listed infrastructure universe.
Bloomberg U.S. Aggregate Bond Index: An index, with income reinvested, generally representative of intermediate-term government bonds, investment grade corporate debt securities, and mortgage-backed securities.
FTSE EPRA/NAREIT Index: A global market capitalization weighted index composed of listed real estate securities in the North American, European and Asian real estate markets.
Bloomberg Emerging Markets Debt Index: Tracks total returns for external currency-denominated debt instruments of the emerging markets.
Bloomberg U.S. High Yield Index: Index composed of fixed-rate, publicly issued, non-investment grade debt.
Bloomberg Global High Yield Index: An index which provides a broad-based measure of the global high-yield fixed income markets. The Global High-Yield Index represents that union of the U.S. High-Yield, Pan-European High-Yield, U.S. Emerging Markets High-Yield, CMBS High-Yield, and Pan-European Emerging Markets High-Yield Indices.
Alerian MLP Index: A composite of the 50 most prominent energy master limited partnerships calculated by Standard & Poor's using a float-adjusted market capitalization methodology.
RIFIS-24414
