Falling income and rising inflation is forcing two million self-funded retirees to look beyond traditional blue chips.
Self-funded retiree income is being hit hard as falling dividends force many to reconsider their investment options, including fixed income and overseas companies with higher shareholder payouts.
“Retirees are nipping and tucking their lifestyles,” says Wayne Strandquist, president of the Association of Independent Retirees, about the impact of lower dividends and rising inflation on the income of some 2 million Australians either fully or partly self-funded in their retirement.
Wayne Strandquist. Louie Douvis
For many investor portfolios, equities comprise about 50 per cent of assets and about 80 per cent of annual revenue, says Charlie Viola, managing director of wealth management at Pitcher Partners. Other assets typically include debt, credit, property and fixed income.
“Retirees prefer Aussie shares, but they are doing what they can to boost their income,” adds Strandquist.
Australian dividends lagged the rest of the world in January-March, falling 6.6 per cent to about $28 billion, according to Janus Henderson, a global asset manager with $472 billion under management.
But global shareholder payouts increased 12 per cent in the first quarter to $496 billion, boosted by a record number of special dividends, Janus Henderson research finds.
David Clark, a partner with wealth manager Cameron Harrison, says Australian banking stocks are yielding about 6 per cent (net), listed industrial property funds up to 6.5 per cent, bank hybrids 7 per cent while top bank deposit accounts are offering more than 5 per cent.
“For the first time in a while, there are rewards for sitting on the sidelines while waiting to see what happens in the economy,” Clark says.
Four sectors dominate
Local dividends remain under threat from high inflation, rising interest rates and slowing economic growth, says Tim Richardson, a global equity investment specialist with Pengana Capital Group, which has more than $3 billion under management, including Pengana International Equities, which is listed on the ASX.
Richardson says more than 80 per cent of dividends paid from Australian companies come from four sectors – resources, finance, real estate and energy.
Financials and resources constitute about 50 per cent of the market and the big four banks and large miners comprise a significant portion of those sectors.
“Many income investors have effectively been forced to choose between appropriately diversifying their equity exposure and meeting their income requirements with potentially overvalued (and in some cases unsustainable) shareholdings in companies,” Richardson says.
He says locally authorised funds investing in overseas companies attract franking credits, which is a rebate on tax already paid on profits in Australia.
“Traditionally, local income investors have been attracted to dividend-paying Aussie stocks because that has been the way to attract franking credits,” he says. “Investing in a domiciled listed investment company with global equity exposure means local investors can also secure franking credits and get diversified global exposure.”
Chris Brycki, chief executive and founder at Stockspot, an online investment adviser and fund manager, recommends investors maintain a consistent strategic asset allocation between local and overseas shares and avoid tactical strategies that “try to time” when to be in Australian or overseas shares.
“The sector/stock concentration of the Australian market is nothing new. There isn’t evidence it has substantially changed over recent times,” Brycki says.
He says Stockspot’s overseas allocation ranges between 30 per cent and 55 per cent of the assets invested for capital growth.
Buying overseas to get exposure to different asset classes and companies is a good idea.
— David Clark, Cameron Harrison
Recent research by investment research firm Morningstar shows funds with “tactical” allocations that try to time the market almost always underperform a more simple asset allocation approach.
Its analysis of 34 tactical funds found that 30 generated worse returns than if the managers had opted for passive strategies.
“Tactical allocation funds sell themselves on the promise of knowing in advance which areas to emphasise and which to avoid,” the report concludes. “The promise has gone largely unmet, as these funds have typically underperformed simpler strategies, like the classic 60 per cent/40 per cent equity/bonds mix.”
“Buying overseas to get exposure to different asset classes and companies is a good way to add diversification to the portfolio. But buying things for higher yield is not always a valid thesis,” says Cameron Harrison’s Clark.
Pitcher’s Viola adds: “Income investors don’t care whether CBA shares are worth $90 or $100. The key issue is whether they produce the profits needed to generate the dividends. Australian investors have tended to use good quality companies like bond proxies.” Bond proxies are shares that are likely to offer predictable returns and, ideally, grow cash flows.
“Good-quality, large-cap, defensive Aussie stocks have been a fantastic way to generate income,” Viola says.
Paul Moran, principal of Moran Partners Financial Planning, a financial adviser, says investors should further target sustainable dividend stocks for generating income.
He says Australian dividends have been significantly higher than global shareholder payouts over the past 20 years.
“While there are individual shares in global markets that pay reasonably high dividends, the currency risk with international shares negates the extra benefits,” Moran says. “Income is reduced in funds where the currency risk is hedged.”
“Investors should be looking for strong, consistent payout ratios. In a mature company, earnings drive dividends and dividend growth drives share performance,” he adds.
Moran says investors might consider a 70:30 per cent split between Australian and international shares for the equity component of their portfolio.
He recommends avoiding shares where dividends are paid from asset revaluations or capital raising and to beware of dividend traps, where the high dividend simply reflects lower share price.
How squeezed income investors can diversify as local dividends slip - The Australian Financial Review
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