Retirement Planning: Where Not to Look for Yield

Many people erroneously believe that yield is the most important part of a retirement planning strategy. Learn why this isn’t necessarily true.

Upon retiring, many believe they must switch their retirement investment strategy from “accumulate” to “generate income” to fund their expenses. As such, it is fairly commonplace for new retirees to think it’s a reasonable move to sell stocks and buy bonds, thus boosting yield.

In a previous blog, we addressed the erroneous focus on “income” as opposed to cash flow and the incorrect presumption that you must boost yield in retirement. In addition, there is one more problem that many encounter today when following this line of logic; the best course of action when interest rates are extremely low. Many investors face this question now, and are answering it with a dangerous hunt for dividends.

MORE: Interested in retirement advice that you can use right now? If you have a $500,000 portfolio, download our retirement guide called "The 15-Minute Retirement Plan." Even if you have something else in place, this must-read guide includes research and analysis you can use today. 

Retirement Planning: Bonds

Since 2008, central banks around the world—the US, UK, Germany, France and Canada—have cut interest rates to rock bottom levels, with savings account and Certificate of Deposit rates following suit. But even longer-dated bonds have seen rates plunge as well. Whereas your parents may have been able to buy government bonds yielding 6% – 10% upon retiring 25 or 30 years ago, today you’ll be hard pressed to find government bonds yielding more than 2.5%. (Exhibit 1)

Exhibit 1: Government Bond Yields Are Way Down 

Source: FactSet, as of 11/27/2015. 10-year sovereign bond yields, 12/31/1984 – 10/31/2015.

Now, government bonds aren’t the only kind out there, of course. But they do tend to act as a baseline for the bond market—given governments have minimal default risk, other rates tend to be slightly higher, reflecting a greater risk of principal loss. So, other bond yields—like corporate bond yields—have also cratered. Exhibit 2 shows this by plotting 10-year Treasury yields against high-rated investment grade bond yields (AAA-A) and less-highly rated corporate debt (BBB-A).

Exhibit 2: Yields in the 2000s, US 10-Year Treasurys and 5-10 Year AAA-A and BBB-A Corporates


Source: FactSet, as of 11/27/2015

Corporate bonds come with more risk of default than Treasurys—and you can see this reflected in the divergence between Treasurys and corporate yields in 2008. When the recession hit, people became wary of lending to corporations and demanding higher yields. Meanwhile, since Treasurys have little default risk, people flocked to them in what’s often called a “flight to quality.”

To compensate you for this higher risk, you’ll likely get higher yields. But on an absolute level these are still quite low by historical standards. Heck, today’s 3.85% yields on BBB-A rated debt are lower than 10-year Treasury rates were in the nearly forty years between January 21, 1963 – September 21, 2002! (Exhibit 3)

Exhibit 3: Current Mid-Grade Rated Corporate Bond Yields Vs. 10-Year Treasury Rates

Source: FactSet, as of 11/27/2015. 12/31/1996 – 10/31/2015.

Conversely, while bonds do not always rise when stocks fall, they can behave quite differently. Exhibit 5 plots the rolling 12-month return of the Merrill Lynch 7-10 Corporate / Government Bond Index against the MSCI World High Dividend Yield Index. Note the shaded periods—equity bear markets. Bonds offset much of the volatility throughout these equity downturns.

Retirement Planning: Alternative Sources

So with traditional sources of yield at rock-bottom levels, some retirement investors who need cash flow are turning to other, alternative sources. For some, that means Master Limited Partnerships (MLPs) and Preferreds. For others, it means eschewing bonds in favor of dividend-paying stocks. Whatever the method of retirement planning, chasing yield like this can have after-effects you don’t intend.

While many presume a stock paying a dividend will be “safer” than one that doesn’t, the reality is both are simply stocks—there isn’t anything special about higher dividends. As Exhibit 4 shows, the MSCI World High Dividend Yield Index (a gauge of developed world high-dividend stocks) and the MSCI World Index track one another very closely. High-dividend yielding stocks don’t cushion you against volatility whatsoever.

Exhibit 4: High Dividends Don’t Dampen Volatility

Source: FactSet, as of 11/27/2015. 12/31/1996 – 10/31/2015.

Conversely, while bonds do not always rise when stocks fall, they can behave quite differently. Exhibit 5 plots the rolling 12-month return of the Merrill Lynch 7-10 Corporate / Government Bond Index against the MSCI World High Dividend Yield Index. Note the shaded periods—equity bear markets. Bonds offset much of the volatility throughout these equity downturns.

Exhibit 5: Rolling 12-Month Return of Bonds and High-Dividend Stock

Source: FactSet, as of 11/27/2015. 12/31/1997 – 10/31/2015

The point here is that we see many pundits and financial salespeople hyping up dividend payers as a bond alternative—a way to get yield that isn’t as risky as stocks. The two preceding exhibits prove that rhetoric false. Folks, in an environment with rock-bottom rates, there is only one way to get more yield: Take more risk. Ultimately, though, we’d suggest there is a more sensible retirement planning alternative: Stop fixating on yield, and consider total return.

More On Retirement

cover image of the definitive guide to retirement income from fisher investments

Do you know how to generate the retirement income you’ll need? This guide will help you find answers to these and other important questions.

Get The Definitive Guide to Retirement Income   
contact icon

Questions about your retirement?

(888) 823-9566

Contact Us

The Definitive Guide to Retirement Income

Do you know how to generate the retirement income you’ll need? This guide will help you find answers to this and other important retirement questions.

cover image of the definitive guide to retirement income from fisher investments

Read guide