Low Yields Push Investors into Very Risky Alternatives

 

The financial world continues to beat the drum warning investors about the risk of bonds.  When interest rates rise (or when the market believes a significant rise in interest rates is imminent) bond prices will fall, and investors in bond funds and individual bonds will suffer declines in value and/or losses.  Retirees and others, who depend upon their investment portfolio to generate cash to pay for living expenses, should take special care to trim their exposure to bonds, especially bonds with longer maturities, experts warn (“Low Yields Spell Trouble for Retirees,” by Tom Lauricella, Wall Street Journal). See Elder Financial Abuse.

Bond yields are at very low levels. Another way of saying the same thing is that bond prices are at very high levels.  Indeed, some experts say the bond market is a bubble, and we know what eventually happens to bubbles.

The article also warns retirees about the conventional wisdom that a withdrawal rate of 4% per year provides a 90% chance that you won’t outlive your asset base.  In today’s low interest rate environment, that chance of success is really only 50%.  It would reportedly take a 2.8% withdrawal rate to achieve a 90% chance of success.

While stock and bond markets have been shown to have a certain average rate of return over time that is positive, they have also been shown to have substantial (sometimes violent) price swings.  A retiree who retirees when financial markets are volatile should probably adjust the withdrawal rate downward, even to zero.

With both stocks and bonds being risky, investors are being herded into various alternative investments to achieve what they are often told is a safe, higher rate of return that would support their accustomed withdrawal rate. Unfortunately, however, many of these alternative investments, such as nontraded real estate investment trusts (REITs), exchange traded funds (ETFs), and structured products, have their own risks and negatives, which may include illiquidity, high fees and expenses, lack of transparency, and vulnerability to economic downturns. What Every Investor Should Know About Alternative Investments.

Page Perry is an Atlanta-based law firm with over 150 years of collective experience maintaining integrity in the investment markets and protecting investor rights.