VALUE INVESTING
How To Invest When You're Retired

By Stephen Bland (TMFPyad)
July 29, 2005

Some recent discussion on our dedicated Value Investor discussion boards about the proportion of investment income that people derive from shares prompted this article. Following a poll on the subject, one reader commented that it was unlikely that anyone would derive all of their income from equities. In the great majority of cases I expect that is true, though not in mine.

I derive virtually all of my investment income from shares and I do not expect to change that even if I cease eventually to have any earned income. I'm not interested in gilts or letting property or anything else and I don't see the need to diversify away from shares as a safety measure either. If I stop trading shares altogether for any reason, maybe because I'm going gaga - assuming I realise it before I'm too far down that road - I'll simply invest in a high yield portfolio (HYP) which to my mind is the ideal income solution for the retired. (And yes I know that many think I've been gaga since I was nineteen but you know what I mean).

The traditional view of many advisers is that shares - by which they normally mean funds, not individual equities - are fine for those building up retirement savings but once you get there, then other investments perceived as safer are more desirable. This means usually something like gilts or corporate bonds or, by far the worst of all, some variation of insurance company based investments. So entrenched is this belief amongst IFAs and insurers etc. that I've even seen so called "lifestyle" personal pension schemes devised whereby they switch you automatically as your plan approaches maturity, from equity funds into something perceived as safer. I don't buy that idea and advise others not to buy it either. The very fact that they've dreamt up the marketing buzzword "lifestyle" should put investors on their guard.

Actually, I can see the reasoning behind this idea that you should move away from equities once retired. Putting cynicism about insurance company marketing to one side for the moment, hard I know but it can be done with concerted effort, it is about dependency. Whilst building up your retirement fund you have other income from your job or business so you don't depend on that fund for income. Once retired, you do. In consequence some think that shares are not an investment upon which people should depend for income, though the same people think that the shares are acceptable for building up that fund in the first place

I'm here to tell you that they are wrong. Value Investor is here to support that view. The traditional dichotomy between shares being acceptable for building up a retirement fund but unacceptable for use subsequently as an income source is odd. It is based upon the belief that the risks attached to shares are actually desirable for long-term fund construction but less than desirable for retirement income purposes. Even though your retirement may itself be quite long term.

But what real risks are there with a properly diversified high yield share portfolio used for retirement income? The idea is that you ignore the fluctuating capital value and concentrate on the annual portfolio income. As long as you have a reasonable margin of error in the income, because there may be very occasional falls, I don't think that there is much to fear at all. A highly conservative margin might be say 20%. In other words you could live on 80% of the start income. I have never seen the income of a HYP fall by anywhere near that sort of figure before recovering.

Yes all your blue chip HYP shares could go bust and the income fall to nil, or a sufficient proportion of them to ruin your happy retirement. That risk is there. But my view is that this is so unlikely that it can be ignored. And if we ever got to that state of total financial wipeout, the great likelihood is that most other investments such as corporate bonds, let property and insurance companies, would be similarly trashed.

For both building up a retirement fund, then deriving retirement income from it, with no need for diversification or more security, I say go for shares. That's what I've been doing and intend to do for as long as I'm around.

> Join Stephen as he builds a high yield portfolio in Value Investor. Sign up today for a free 30-day trial and try before you buy!