Investing for retirement has never been easy, but today’s zero-interest rate world is forcing advisors and their clients to attempt a high-wire act. What makes it particularly challenging is that most clients in or approaching retirement were conditioned decades ago to believe they should be able to save enough to preserve their capital and live off the income it produces.
To do that today, an individual needs to be wealthy or frugal or both. As bonds and stocks have soared in value thanks to easy monetary policies and an aging population, the cost of retirement income has grown increasingly expensive.
Americans are not alone—it’s a global problem. But more than a few advisors believe that part of the solution lies in finding value and income outside the U.S. In fact, the valuation differential between the U.S. and other developed stock markets is near an all-time high, prompting some advisors like Tom Connelly, president and chief investment officer of Versant Capital Management in Phoenix, to tilt portfolios toward value stocks, particularly those outside the U.S.
BlackRock’s iShares Core MSCI Europe ETF yields about 2.4%, while the S&P 500 yields only 1.3%. Neither figure is especially juicy. Over the 12 months ended September 14, both indexes have mirrored each other, returning just over 30%.
After 10 years of growth outperforming value, advisors are seeing some client prospects enter their offices with portfolios out of whack just when market leadership might be at an inflection point. Both styles have performed well this year. In the U.S., the iShares Russell 1000 Growth ETF was up 17.9% so far in 2021, while the ETF based on its value index counterpart was up 20.2% as of September 14.
If one drifts further out on the growth spectrum where the air is thin, however, danger signs are apparent. For instance, Cathie Wood’s $25 billion flagship ARK Innovation ETF was down 3.5% for the same period.
Risks Reaching For Income
Preserving capital and living off the income is still possible. But Connelly says clients are likely to be taking some kind of risk, be it “illiquidity, duration, credit or optionality”—the last being a reference to those bonds that offer more income but come with an embedded call option.
Connelly points out that many instruments favored by yield-hungry investors, ranging from mortgage REITs to preferred stocks to high-yield and emerging market bonds, suffered just the same fate equities did in both the financial crisis and the brief but violent Covid bear market. With many of these vehicles, he sees the risk of permanent capital impairment.
Congress and the Federal Reserve bailed out the financial markets in both crises. But it’s a fair question to ask how willing senators as diverse as Kentucky’s Rand Paul and Massachusetts’s Elizabeth Warren will be to bail out markets next time. Connelly also notes there is no guarantee the next bailout will be as successful as the last two.
The REIT market still offers exposure to certain properties like data centers and multi-family housing yielding 5% or 6%, according to Michelle Connell, CEO of Portia Capital Management in Dallas. But she says advisors and other investors need to examine the underlying properties, since the higher their yield is, the greater the likelihood they will require expensive renovations.
Another risk receiving lots of recent headlines is inflation, of course. Don Wilson, chief investment officer at Brightworth in Atlanta, has spent considerable time this year reading experts on both sides of the debate, and he remains agnostic in his views and portfolio positioning.
Brightworth does deploy some client assets to inflation-friendly investments like TIPS, commodities, real estate and gold. But Wilson notes that some of these asset classes can be volatile, particularly gold and commodities.