The Centers for Disease Control and Prevention reports that life expectancy at age 65 for the U.S. population in 2020 was 18.8 years. This 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.
Keep in mind that high return and low risk tend to be oxymorons in investing. “Higher returns are generally achieved only by taking more risk, either in the form of more repayment risk, more volatility or more liquidity risk,” says Scott Duba, chief investment officer and managing director of wealth management at Prime Capital Investment Advisors. So be sure you understand the features of any investment that purports to offer both high returns and low risk before investing.
“Retirees should keep in mind that long-term principal protection is paramount and the best way to ensure this is to have a well-diversified portfolio of high-quality and thoughtfully selected investments,” Duba says.
The following seven investments can help retirees earn a decent return without taking on too much risk in the current environment:
— Bond ladders.
— Municipal bonds.
— Real estate investment trusts.
— Dividend-paying stocks.
— Preferred stock.
Since rising rates and inflation affect the prices of long-term bonds more than short-term issues, one way to keep a bond portfolio potentially safer and more flexible is to use a bond ladder, says Matt Nadeau, a wealth advisor at Piershale Financial Group.
With bond laddering, you buy bonds of various maturities. As each bond matures, you either use the principal as income or reinvest it into new issues.
“When you go to reinvest it, if bond yields are going up, you benefit from higher rates; if yields are down, you have the option of choosing a different bond maturity or investment,” Nadeau says.
You can consider using different issuers in your bond ladder. “Currently, one great option that is available are Series I savings bonds,” he says. “This is a very low-risk bond that adjusts for inflation, helping protect your investment.” Just be aware of liquidity limitations, as Series I bonds limit the amount each person can invest to $10,000 per year.
“For retirees, we advise being mindful of what portions of your savings you need to keep liquid to meet living expenses and what portions you can tie up into less-liquid investments,” he says.
Municipal bonds may not offer high yields compared to non-fixed-income investments, but they have one benefit retirees can’t afford to ignore: tax-free income. The income you receive from munis is tax-exempt at the federal level and, if you buy bonds issued in your home state, usually from state income tax, too.
Having a combination of taxable and tax-free income sources in retirement is key. “Sourcing funds from accounts in a tax-optimized way can significantly increase return on retirement assets and support retirement spending needs,” Armstrong says.
Munis also tend to have lower default rates than corporate bonds, making them a lower-risk option for retirees who are trying to minimize income taxes in retirement.
“For higher-income folks, municipal bonds look attractive right now since there was a major sell-off in that area (that) created opportunity for investors” to buy at a “sizable discount,” says Adam Lampe, CEO and co-founder at Mint Wealth Management.
Real Estate Investment Trusts
Real estate investment trusts, or REITs, invest in mortgages or direct equity positions in various types of properties. They provide a more liquid alternative to pure real estate as REITs are traded on stock market exchanges.
“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.
REITs can also protect retirees from inflation risk. “As inflation rises, real estate property values do too,” says Gene Goldman, CIO at Cetera Investment Management. “This leads to higher rents and more income.”
Two of the largest REITs based in the U.S. are American Tower Corp. (ticker: AMT), which yields more than 2%, and Crown Castle International Corp. (CCI), with a yield of around 3.5%, compared with the current yield of the S&P 500 of 1.6%.
Jim Ward, executive vice president of advisory services for Retirement Planners of America, suggests holding REITs in a tax-deferred account such as your IRA because the income they produce tends to be taxed at a high rate.
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.
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.
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,” Lampe says. “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. 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 sharp price changes in the near future.
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.
While these options strategies can provide nice income, there is still “significant risk that the underlying shares get called away in a volatile market,” Goldman says. “The good news is that extreme market volatility … leads to great option pricing and more potential income in these strategies.”
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 come 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.
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.
“There are a lot of variables to consider with annuities and one’s unique circumstances may or may not make them a smart investment,” Ward says. “The lack of liquidity, the tax treatment of the income and the company risk associated with the annuities can sometimes make them far less attractive.” He suggests consulting a licensed financial advisor to help determine if annuities, and which types, may be a good option for you.
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Update 07/07/22: This story was previously published at an earlier date and has been updated with new information.