When it comes to retirement income planning, it’s important to have a strategy with the right priorities. Once you’re nearing retirement age, one of your top two priorities should be reducing your risk of a major loss due to market volatility and having sufficient and reliable income for retirement. Most people know this, but what many people don’t realize is that both of those goals are achieved once you shift your strategic investment focus from growth first to income first and growth second.
Here are some ways investing for income-first reduces your financial risk:
What Is Investing for Income First, Growth Second?
Investing for income-first is a strategic approach focusing on assets that generate return in the form of interest and dividend payouts as opposed to capital gains. Examples include the following:
- Dividend Stocks: Shares of companies that distribute a portion of their profits as dividends. These tend to be older, well-established companies selling value stocks as opposed to growth or momentum stocks.
- Individual Bonds: Fixed-income securities that pay interest over time. A diversified portfolio of actively managed individual bonds and bond-like instruments provides the foundation of most income-first retirement strategies. Unlike bond funds, individual bonds offer the only true strategic approach to investing in the bond market.
- Real Estate Investment Trusts (REITs): Companies that own and manage income-generating properties.
- Annuities & Other Bond-Like Instruments: Designed to provide steady payments over time, and available with a wide variety of terms and features to suit a wide variety of retirement needs and goals.
How an Income-First, Growth-Second Strategy Reduces Risk
Once again, an income-first strategy reduces your risk in many ways. This means not only the risk of suffering a major loss due to a sudden market downturn, but also the risk of spending down your principal to cover retirement expenses, and the long-term risks posed by inflation. Here are some more specific examples:
Steady Cash Flow in Any Market
Unlike relying solely or mostly on capital appreciation, income investments provide regular payments, helping to cover expenses or reinvest without selling assets at a loss during market downturns. Understand, selling shares from a mutual fund to generate income requires selling more shares for less money whenever the market is down, which means you are “reverse dollar-cost averaging.” This is a cancerous strategy that can put you at risk of cannibalizing your entire nest egg!
Lower Portfolio Volatility
Since income-generating investments often include stable, well-established dividend-paying companies and/or fixed-income securities, they tend to be much less volatile than growth stocks or speculative investments. In addition, many income-generating investments are contractual and designed to guarantee the return of your principal upon maturity, provided there is no default. This means if you hold the investment to maturity, any loss due to volatility in the intervening years is essentially only a paper loss, not a real loss.
Compounding Growth Over Time
Reinvesting income payouts can accelerate portfolio growth, creating a compounding effect that strengthens financial security over time. This is what advisors who specialize in income-based strategies call growing your portfolio organically. It’s also where the term “income-first, growth-second” comes from because the approach is based on acquiring your interest and dividend return first and then reinvesting it to achieve strategic growth. This is also what Income Specialists call a “bird-in-the-hand” approach to investing. It reduces your risk because you are no longer dependent on market growth to achieve portfolio growth.
Inflation Protection
Some retirement income investments, such as dividend stocks and real estate, can help offset inflation by increasing payouts over time. In other words, strategically reinvesting a portion of your income return can increase your future income potential, giving you a long-term inflation hedge.
Diversification Benefits
Even short of shifting your entire strategy to income-first, growth-second, adding income-focused assets to your portfolio can still reduce your overall risk by balancing high-growth, high-risk investments with more stable, cash-generating ones.
Summary
Investing for income first and growth second provides a safer, less stressful way to invest once you’re nearing retirement age or are already retired. It’s important to understand that, at this stage of life, your priorities have changed. Your main objective is no longer to grow your portfolio for the future (which is when investing for growth first or growth-only can make sense), but to reduce your investment risk and ensure you’ll have reliable retirement income to meet your needs and goals. Shifting your strategic focus to income-first, growth-second with the help of a financial advisor who specializes in retirement is the surest way to achieve both these objectives and set yourself up for a successful, stress-free retirement!
