The Centers for Disease Control and Prevention reports that life expectancy at age 65 for the U.S. population in 2019 was 19.6 years. That fell to 18.8 years in 2020 as the pandemic took hold, but it still means that those who retire at the traditional age should be prepared to fund at least two more decades of living expenses.
Investing wisely can help supplement Social Security benefits. “Given low starting points of traditional bond yields, (retirees should) consider enhancing overall portfolio yields by looking outside of the bond market,” says Christine Armstrong, executive director of wealth management at Morgan Stanley Wealth Management. “Any deterioration in economic prospects, for example, from the Russia-Ukraine conflict, could weigh on riskier assets like oil, and in such a scenario traditional fixed income, especially Treasurys and investment-grade debt, will likely outperform.”
Here are six investments that could help retirees earn a decent return without taking on too much risk in the current environment:
— Real estate investment trusts.
— Dividend-paying stocks.
— Covered calls.
— Preferred stock.
— Alternative investment funds.
Real Estate Investment Trusts
Real estate investment trusts, or REITs, invest in mortgages or direct equity positions in various types of properties.
“For clients in retirement, income becomes important and managing retirement income risk becomes critical,” Armstrong says. “Retirees need to plan for how to provide adequate income while growing and keeping up with inflation as well as how to withdraw in a tax-efficient way.”
REITs are required to distribute 90% of their taxable income as dividends to their investors, and that yield is usually higher than what you can get from stock dividends. The combination of high dividends and the ability to develop properties or sell them and redeploy the money means these investment vehicles “can be a good total return investment for retirees as a portion of their portfolio,” says Michele Lee Fine, CEO of Cornerstone Wealth Advisory.
The largest REITs based in the U.S. are American Tower Corp. (ticker: AMT), which yields 2%, and Crown Castle International (CCI), with a yield of 3%, compared with the current yield of the S&P 500 of 1.3%.
Stocks that pay dividends can offer relative stability in the often-tumultuous world of equities. These dividends are often higher than those from safer investments, such as certificates of deposit and U.S. Treasury notes — especially now, as interest rates are inching up but remain historically low.
While you still have to take on the risks associated with stocks, dividend payers also offer the chance to earn money regardless of whether the stock price rises. With the combination of price growth potential and income, these stocks can help you keep ahead of inflation.
“Companies with long track records of dividend payouts to investors every year through the worst market cycles, crashes and more, reflect a commitment to shareholders that can provide retirees greater peace of mind,” Fine says.
You have to be careful when choosing dividend-paying stocks, however. “A lot of times when companies are offering high dividends, they’re doing that to attract investors, and they’re borrowing money to pay that dividend,” says Adam Lampe, CEO and co-founder at Mint Wealth Management. “So you need to be sure they can actually deliver.”
To do this, look for so-called dividend aristocrats, members of the S&P 500 that have raised their dividends for at least 25 consecutive years. These are some of the best dividend-paying stocks, with the kind of solid track record on which retirees can rely. Consumer staples giant Procter & Gamble Co. (PG), for example, has made uninterrupted payouts for more than 60 years.
Also remember that the principle of diversification still applies: Lampe says to keep any individual stock to no more than 3% of your overall portfolio.
One way to lower risk with dividend-paying stocks is to write covered calls on them, says Laurie Itkin, a financial advisor and wealth manager at Coastwise Capital Group.
In the stock options market, a call is the right, but not the obligation, to buy or sell a stock at a specific price during a specified time frame. An investor who holds a stock can sell (also known as write) a call option above the stock’s current price to receive a premium payment. Note that if you write a covered call on stock you own, you may be forced to sell the stock if the holder of the call decides to exercise the option.
A covered-call strategy works best when investors believe that the stock they’re holding won’t see sharply higher or lower prices.
With covered calls on dividend-paying stocks, investors can benefit from the call option premium in addition to capital appreciation and dividend income, Itkin says. “Writing covered calls on dividend-paying stocks is less risky than just purchasing dividend-paying stocks,” she adds.
Preferred stock is a stock-bond hybrid that pays a coupon well in excess of government bonds, but with the price volatility of stocks.
In the pecking order of who gets paid if a company goes bankrupt, preferred shareholders have priority before common stockholders but after bondholders. As long as a company stays financially healthy, this extra risk means bigger payouts to holders of preferred stock compared with bondholders.
The high yields that preferred shares can offer for a retiree’s income stream make them “a desirable asset class for retirees seeking passive income,” Fine says. “It’s important to incorporate them into a diversified strategy to ensure it’s part of a suitable portfolio for one’s particular unique goals and objectives, risk tolerance and time horizon.”
Annuities are investment contracts between you and an insurance company. They come in different forms, and usually include a guaranteed return at a stated rate.
In addition to fixed annuities, there are also fixed indexed, variable, immediate and deferred annuities. “You can likely earn higher guaranteed interest rates on your retirement nest egg today in a fixed annuity than you can in a bank CD,” says Paul Tyler, chief marketing officer at Nassau Financial Group, which sells annuities.
Fixed annuities guarantee the principal invested, a minimum interest rate and set payouts for the life of the annuitant. It’s important to pay attention to the fees and commissions an annuity charges, which can be very high. Many annuities also have complicated features, so take the time to fully understand the product, and take a close look at how an annuity will change your tax liability.
Alternative Investment Funds
“The basic premise with an alternative fund is that you want to have investments that are not correlated to the stock market,” Lampe says. This can help “smooth the ride” of your portfolio by keeping all of your investments from moving in the same direction at the same time.
Alternative funds can include options strategies, convertible bonds and merger arbitrage. “Put together, these strategies can have some of the same characteristics as bonds, such as having a low correlation to stocks and having low overall volatility,” says Ryan Johnson, director of portfolio management and research with Buckingham Advisors.
It’s worth noting that low volatility doesn’t necessarily translate to low risk, however. For instance, CMNIX has relatively low volatility but uses complex trading strategies, such as shorting stocks, which can work great until they don’t, like what happened with GameStop Corp. (GME).
With alternative investments, hiring an experienced, specialized mutual fund manager makes sense, Johnson says. That said, investors should keep in mind that fees for alternative investment funds can be higher than average because of extra administrative, trading or legal research fees, he adds.
Lampe says that as much as he thinks alternatives can “play a role in many portfolios,” most investors should keep alternatives no more than 10% of their portfolio.
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Update 03/24/22: This story was published at an earlier date and has been updated with new information.