Three Investments for Retirees Outside Term Deposits

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There’s a generation of retirees in Australia who didn’t enjoy the benefits of compulsory superannuation.

As a result, these retirees now have to fund their retirement, and in doing so, they face historically low interest rates.

If you’re one of those retirees, you’re looking at an interest rate of less than 2 per cent for longer-term deposits, with expectations the rates will fall even lower.

The Disadvantage of Low Interest Rates

The Reserve Bank’s official cash rate is at .75 per cent and the big four banks are offering rates lower than 2 per cent. What does that mean for you?

Let’s compare a 2 per cent return with the Reserve Bank’s target inflation rate of 2-3 per cent.

If the low-end of the target inflation rate is achieved, the real interest rate you will receive on your money will be zero.

If the higher end inflation rate is made, your bank deposit would have fallen in real terms, even if you did not make any withdrawals in the next year.

How is it possible then to generate a decent enough return to help fund your retirement, and slow any draw down you may need to make on your retirement savings? And, how do you do that with minimal risk?

By balancing risk and reward with a diversified mix of investments.

So let’s look at three types of investments that can become part of such a diversified investment mix.

1. Term Annuity

ZAn annuity is a financial instrument that guarantees you will be paid a set rate of return for either the term of your life or a fixed period of time. In some ways this makes it similar to a long-term deposit.

Annuities also receive a favourable treatment from a Centrelink/Age Pension perspective.

Beginning this July, the government will only initially assess 60% of new annuity investments when assessing your assets in relation to the age pension. This assumes you’re under the income threshold.

In other words, if you purchase a lifetime annuity for $100,000 and it generates 2.5% in returns, you actually earn another 3% in extra age pension. That makes the “guaranteed” rate of return about 5.5%.

2. Fixed Income/Bond Funds

There are a number of high quality fund managers who offer government bonds that preserve capital and generate a return of approximately 2-3% above the cash rate.

For instance, at Financial Framework we use a fund called the Income Opportunities Fund, which has generated returns of approximately 5% since its inception in 2003, and 4% in this past year.

The idea behind this strategy is that a highly skilled fund manager takes on a little more risk than leaving your money in the bank, which generates a higher rate of return. In reality, however, it’s still a pretty conservative investment.

That extra 2-3% each year will add up over time, making it worth looking at as part of a conservative investment portfolio.

3. Infrastructure/Real Assets

ZSeeking out high quality managers in alternative asset classes is another way of generating investment returns in a low interest rate environment.

Depending on the asset class and correlation, they can have the benefit of performing well even when share markets aren’t; this is great for diversification.

However, you need to be careful in the selection of the manager and the asset class. You want to ensure you avoid investing in something more risky than what you expected and therefore potentially losing capital.

Here’s an example. Investing in high quality infrastructure funds is one option, as they tend to have predictable income streams based on the fact they’re a monopoly. These include roadways, ports, airports etc.

However, in this scenario be wary of an asset or fund where there are high levels of debt involved in funding the building or purchasing of the asset.

This third option is a higher risk and higher return than the other two options. But you can allocate a smaller amount in the overall makeup of your portfolio.

It’s best to seek professional advice to help make these investment decisions. Good advisers understand how to mix investments across different categories to reduce risk while delivering returns.

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