Not all advisors understand investing for income

I recently met with a lovely couple in their 60’s wanting a second opinion on their investments. Their situation is another case where a financial advisor does not really understand investing for income in retirement. Investing in retirement is different than investing for retirement.

Ben is 67 and Heather is 62. Ben is retired and less than 2 years ago, he transferred his Defined Contribution Pension into a Locked-in Retirement Account (LIRA) with his financial advisor. $400,000 went from a lower fee DC Pension into high fee mutual funds. Not only were these high MER mutual funds but they also went in on a back end load, which is not ideal for income investing.

Back end loads are great for the advisor because in this case, he got an upfront one-time commission of around $15,000 in addition to his monthly trailers. But how does this compensation help the client? Back end loads or deferred sales charges (DSC) can be restrictive when drawing income from investments because you can only take out up to 10% free amounts without penalties.

The problems

The real problem here was not just the back end load and the compensation to the advisor. The real problem was there were some fundamental flaws in the portfolio construction.

Too many equities.

The portfolio had 10 different mutual funds. There were 6 equity funds, 3 balanced funds, and 1 bond fund. The portfolio had 25% fixed income and 75% equities. This portfolio may have been great for a 45-year-old getting ready to retire in 10 or 15 years but Ben was 65 at the time and getting ready to draw income.

If we turn the clock back in time, Ben was retiring and just after the money was transferred from the Pension at work to the LIRA, the markets took a turn downward and he immediately saw losses in the portfolio because of his high exposure to the stock market. His $400,000 was now worth $350,000 and he has not taken one cent of income. Because there was too much risk in the portfolio, Ben decided to do what most retirees would do in this situation . . . delay income until the market recovered.

Selling units for income makes for bad math

Let’s just imagine Ben was not in a financial position to delay income. His plan was to transfer the LIRA to a Life Income Fund (LIF) and take $20,000 per year from the LIF. If he took the $20,000 from the LIF, the $350,000 would now be worth only $330,000 and even if the markets bounced back, there would be less money and fewer units, which makes it even tougher to recover from market losses. The $330,000 now has to make over 21% just to recover back to the original $400,000.

Related article: Variable returns can work against you in retirement

Income portfolios need some cash

I can accept that some people will need to have some equities in a portfolio even in retirement to deal with inflation and longevity but the variability of stock market returns is also problematic for creating and sustaining retirement income especially when selling units to create income.

One of the best strategies when it comes to setting up income portfolios is to make sure you have a cash component that is segregated from the equities. This helps alleviate the risk of bad timing.

Ben has 25% exposure to fixed-income investments which is $100,0000. Surely, this should be able to generate $20,000 of income without having to touch the equity portion of the portfolio. Here’s the problem. Most of the bonds were in balanced funds and accessing the bonds without selling the stocks was impossible. There was only $10,000 invested directly in bonds.

Balanced funds are very popular investments because they diversify among the three main asset classes but when investing for income, it’s better to segregate the parts.

Related article: Creating income with buckets of money

In Ben’s case, it would be better to have $100,000 invested directly into cash and bonds and the other $300,000 invested inequities. In fact, my preference would be to have $60,000 invested in cash or money markets which guarantees the ability to create at least 3 years of income. Then, Ben should have $100,000 invested into bonds and the remaining $240,000 could be invested inequities. In fact, Ben should consider dividend-paying equities to continue having money added to cash. In this case, Ben would have more of a 60/40 split with 60% in stocks and 40% in fixed income which is better suited for an income portfolio producing a 5% income.

The biggest problem of all

No plan! This advisor-sold these funds on a DSC basis. We can assume the advisor made $12,000 to $15,000 of compensation plus his annual trailer fees of $1600 per year. Ben and Heather were not aware of the $12,000 to $15,000 commission cheque.

Ben and Heather also have $300,000 in RRSPs and TFSAs with the advisor. That’s $700,000 invested in retail mutual funds. At an average MER of 2.4%, that’s $16,800 in fees every year. For those kinds of fees, the advisor should be doing some serious retirement income planning considering they could go to a fee-only planner and pay less than $2000 for a comprehensive income plan.

Unfortunately, I see this kind of thing a little too often. I can see where advisors need to be compensated for good work but in this case, the client lost and the advisor won. Too many advisors don’t really understand that portfolios designed to invest for retirement are not the same as investing in retirement. What do you think?


  1. My Own Advisor

    I think the plan for your asset accumulation years must be different than the plan for asset preservation or withdrawal years.

    I recall Daryl Diamond said it well in his “Your Retirement Income Blueprint” book: consider your working years, the asset building years your front-nine of a round of golf and consider your retirement income years and needs, your back-nine.

    Strategies need to be designed for each.

    Good profile Jim.



    I dunno about this. AFIAK, the idea that investing pre vs. post retirement needs to be different seems to be based on standard industry hocus pocus assumptions that people’s ‘needs’ change. I’ve yet to see any actual proof that investing strategies should change at retirement.

    The counter point to this is, if you retire at 65, your investment timeline is about 25 years, give or take, right? That’s long term investment strategy, so by that assumption you should use the same investment strategy as a 40 year old.

    I don’t know which one is correct, but I”m suspicious that the idea of ‘conservative’ investing at retirement is based on emotion not fact.

  3. Paul T

    The single most important fact you’re missing was detailed in the article. That the retiree HAS to withdraw a set amount of Capital every year (same with RRIFs). If that capital is reduced due to a market drop, the retiree isn’t able to wait for a rebound in the markets.

    I think Jim’s suggestion of having a few years cash (or MM funds) on hand is spot on. Give the capital time to recover and withdraw your set amount yearly.

  4. Andrew Spencer

    Hey Glen

    A 65 year old intending to live off his investment income in retirement should have a completely different asset allocation than a 40 year old living off employment income and investing for retirement, AFAIK.

    The essence of this strategy difference is in the requirement to preserve capital vice grow capital…and this is irregardless of how long the retiree expects to live.

    Now if the 65 y/o didn`t plan on touching his investment income for 15+ years, then yes he would likely have the same asset allocation and investment strategy as the 40 y/o…but then again maybe not.

    One’s ability to handle risk is based on two things…1) Risk capacity and 2) Risk Tolerance. Risk capacity is a function of time (which in turn is based on the individual’s goals and personal/financial circumstances)…while risk tolerance is a function of the individuals previous exposure to risk (ie. reactions to market crashes) and psychological profile (ie. general risk aversion).

    This is important because people’s risk tolerance can and does change over time. So even if the 65 y/o in retirement didn’t plan on touching the money for 15+ years, then it still may not be appropriate for that individual to invest as if he was 40 y/o since his tolerance for risk may well have changed.

    This occurred during the 2008 financial crisis as some retirees who didn’t even need their investment income at that moment pulled their investments due to a new sense of fear…and at a significant loss.

  5. FPG

    I tend to agree with the biggest factors are risk tolerance and time horizon is selecting investments. Especially on a LIRA/LIF they have an excessively long time horizon and if the withdrawal rate is handled properly, they should never really run out of capital. Now it seems they were uncomfortable with the investment selection after the decision, but that could have just as much to do with the client getting nervous with a market drop as much as the advisor not doing a good job of investment selection. Not trying to defend bad work, there is no excuse for not having a written plan in place.
    I also think the discussion of DSC/Backend is actually a moot point in this case especially in a LIRA/LIF. The maximum withdrawal rate doesn’t hit 10% in any jurisdiction until around age 80. The client actually has no way to get dinged DSC fees unless they get around the maximum withdrawal rates or transfer it to another institution.
    One last thought. I get the idea of not wanting to redeem units but the math has always confused me because depending on how you do it, it comes down to if you are withdrawing 5% a year through dividends, distributions or redeeming units, you’re still withdrawing 5% regardless. I think you end up doing the same thing with your strategy. If you have a cash reserve and use that as the depletion pool, your equity exposure steadily climbs as your cash component depletes causing you to have to re-balance the portfolio to stay within their risk tolerance and redeem units of the equity portion anyways.
    Some thoughts FWIW

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