Speaker 0:
hello and a very warm welcome to this edition of talking markets where today we're gonna be talking about retirement income. My name is Jonathan Wilcox, Global head of distribution here at Premier Min. And with me in the studio today, I have none other than David Jane, who is the fund manager of the Premier Maron cautious monthly income fund.

Speaker 0:
Now, before I unleash David, you know, I thought it'd be worthwhile just sort of setting the scene. Because when I've been going out and talking to advisers over the last sort of few weeks and months, it's becoming increasingly apparent that more and more advisors are turning towards thinking about their central retirement proposition, especially as many of their clients are moving through. The age brackets are approaching retirement or are retiring as we speak. Or indeed, they've already retired.

Speaker 0:
And so the debate moves from the accumulation to the de accumulation phase of their clients lives and what we've certainly noticed by all the conversations that David and I have been having when we've been out and about in the marketplace is that many advisors have been going down the route of unit en cash, almost taking effect their central investment proposition, carrying on with the same programme and doing unit en cash.

Speaker 0:
Now when markets are going up, that's great. That kind of works as a strategy. And of course, when capital gains tax rates were much higher or well, I would say capital gains tax allowances were much higher 12,300 per person or obviously more than 24,000 per cap per per couple. You know, that makes sense.

Speaker 0:
But in a world where the capital gains tax allowance has dropped to £6000 per annum and in fact, as of next April 2024 that drops to £3000. And we're living in a world where, actually markets are not necessarily going up in a straight line as they were before. Maybe unit in cash is perhaps a challenge when you're thinking about retirement income.

Speaker 0:
And so one of the key things. I think one of the key risks in all of that is sequencing risk. So, David, can I just bring you into the conversation now and ask, You know, why is sequencing risk such a dangerous thing when you're thinking about retirement income? Oh,

Speaker 1:
this is This is absolutely critical, you know, for for for for clients who are moving

Speaker 1:
into that retirement phase, who are who are beginning to draw out on their pensions, particularly where they're using unit in cash as a strategy, because it it it's really it's the reverse of pound cost averaging. Essentially, what you're seeing is is clients, you know who, who who've moved into retirement and who've been selling units into these relatively weak markets of the last two or three years. Obviously, as markets weakened, they're selling more units.

Speaker 1:
Yeah, and this is why sequencing risk is so critically important. You know, if you're using a unit in cash strategy, it's fine if if you happen to retire during a period of strong and rising markets, as most people did over the last 10 or 15 years. But if you happen to retire at a point where markets are falling and you're drawing that capital out of the portfolio at low prices,

Speaker 1:
that's a nightmare.

Speaker 0:
And then presumably therefore, for each year thereafter, your capital values falling even further, and you haven't to sweat that is existing assets even harder for a higher income

Speaker 1:
stream. You've got less less units to recover. Yeah, it's as simple as that. This is a very difficult problem that the advisor are facing using using it in cash in.

Speaker 0:
So so what's your alternative, David? I mean, I know you talk about natural income, so perhaps, can you just walk me through what is natural income? And why is this such a a good alternative to consider to, as opposed to just doing it in cash?

Speaker 1:
Ultimately, income on a portfolio is much less volatile than capital values. So if you're able to draw the natural income and that can meet all of your needs, that is clearly going to be a better strategy. Because whilst the capital values may go up and down

Speaker 1:
as capital values fall, yields rise. You're still receiving the same level of income out of that portfolio. Unless dividends are cut or you have defaults on your bond portfolio, your income is still stable. Whatever happens to capital values over time, and so naturally it becomes a better strategy for somebody who wants an income. But there's a second reason here, which II, I think in many ways is more powerful.

Speaker 1:
Clients who have moved into retirement they're saying to their advisor, I want to receive X pounds a month. That's what I want to receive out of my portfolio.

Speaker 1:
If you use a natural in income strategy, you directly meet that customer need, he said. I want income. You give him income.

Speaker 1:
To me, that seems vastly more logical than pursuing a capital gains strategy and trying to chase capital gains out of a portfolio and then converting that into income. Why not solve the problem directly

Speaker 0:
and then presume as a consequence that if you're getting that income you need every month, every quarter, every year,

Speaker 0:
then actually you don't really care what's happened to the underlying capital value, because if the income stream is paying through, that underlying volatility of capital doesn't really shouldn't really

Speaker 1:
affect you absolutely. And certainly not in in the relatively short term. Obviously, in the long term, many people want to pass that capital on to their heirs. Your expectation, really with the capital is it will tag along

Speaker 1:
behind the income over the long period of time. Absolutely, you know. So so as dividends grow over time as the portfolio ought to keep up with that dividend growth over time, but yours will go up and down in the short term so you'll see capital volatility. But when you're looking at a retirement period of 30 odd years,

Speaker 1:
if the income has grown in line with inflation, it's reasonable to expect that the capital value would have grown a similar amount over that period

Speaker 0:
and and just picking up on that because obviously we're now living kind of in a new regime world where for the last 2030 years we haven't really worried about inflation very much. But if you're retiring today

Speaker 0:
and with the kind of survival rates or longevity rates that people talk about, you might be retiring today at 63 65 67. There's a very good chance you're gonna live for 20 to 25 years in retirement. So how important is inflation when you're thinking about natural income as well?

Speaker 1:
Well, that's become dramatically

Speaker 1:
important, and actually you could argue that that's really what's changed over the last five years in the investment environment we saw really for most of our careers, low and falling inflation and low and falling bond yields, and that really all changed in 2020 20 what when inflation came back

Speaker 1:
with a vengeance. And it's our view that that inflation is going to persist a bit like the decade of the seventies, where once inflation was baked into the system, it persisted for a very long period of time, and during that period we saw much higher volatility. But if you're living

Speaker 1:
through that as a retiree trying to draw capital out of your your portfolio to support your needs, that's a really difficult environment. If you're drawing an income out of the portfolio and and hopefully that income grows in line with inflation over time, if it's a portfolio of real assets,

Speaker 1:
then you can reasonably expect a fairly stable environment. So the you know, in my view, the best way to defend yourself against inflation is a portfolio of income generating real assets, which makes

Speaker 0:
perfect sense. OK, so let's think about this. And David, let's let's get into the nub of this.

Speaker 0:
So you run as we know the cautious Monthly Income fund, which is a multi asset fund, directly invested multi asset fund. Can you just walk me through? You know, the benefits of running a direct invested multi asset fund as opposed to, say, a fund to fund or or an MP S. When you're trying to get that income,

Speaker 1:
honestly, II, I think it it must be very difficult to run a natural income strategy

Speaker 1:
in a context that isn't directly invested fully in control, because what I'm trying to do is I'm looking at my portfolio every single day and I'm looking. Where's the income coming from? Where's the income coming from the next six months? The next 12 months? What assets are generating those incomes? What surprises are along the way? If you're trying to do that in an NPS scenario, you're not in control of those factors.

Speaker 1:
You can't decide where your income is coming from. Somebody else who runs the underlying fund

Speaker 1:
he doing, he's managing that, and he's most likely not managing the income. He's most likely managing a total return strategy in order to be an I a sector, because that's what his bosses are asking him to do. And so he's not concerned whether you're gonna get this level of income and that level of income. Even in funds branded income, then the most managers are not managing the income, so you can really only run a natural income strategy as I do

Speaker 1:
in a directly invested format, because you need to be able to control where the income is coming from. You need to manage that income day to day. You need to see what's in the portfolio for this month end. Am I gonna pay my monthly dividend as, as expected or not?

Speaker 1:
You can't do that if you're reliant on somebody else having collected the dividends, that would

Speaker 0:
make sense. So can we just dig a bit deeper? David, you know, you talked about trying to manage that income flow 123 months ago. How how do you do that? You know, across the spectrum of different instruments that you can buy or I

Speaker 1:
have a a huge spreadsheet, But But ultimately, if you think about it, you've got your bond portfolio.

Speaker 1:
You know, daily the income coming out of your bond portfolio. You know, maturities. Occasionally you get buy ins, and occasionally you get get calls, come through on the bond portfolio, and and and you'll obviously get maturities. So you need to know what you're going to be reinvested that income at. But broadly, you know you can rely on 80% of the income out of the bond portfolio for 12 or 15 months ahead, depending on your maturity profile,

Speaker 1:
and you can have a reasonable view as to how you're going to be reinvesting. So there's that's the solid core of the income in the portfolio. I know that's coming every month, and then I know the profile of dividends out of the equities. You know when the interim is going to be within a few weeks, each year and when the final dividend is going to be within a few weeks, each year and you'll have you know, a huge number of forecasts that you can put in

Speaker 1:
to that. So we also know the dividend income coming out of the equity portfolio going forward months in advance, and we're forecasting that and we're checking and re forecasting all the time. So we know the income that's coming into the portfolio with a reasonable degree of accuracy over quite extended periods of time.

Speaker 1:
And if things aren't going to plan, we have to change what we do. We have to look for the income from somewhere else. OK,

Speaker 0:
so you know, one of the questions that I often get when I'm out. Then I'm sure you've got the same question as well, where you know, right now I can get 4.5 5% on cash. Um, right now I can get annuity probably north of 506% you know, or whatever out there, depending on what type of annuity I'm getting in its short term, or or or long term annuities. But it's very attractive out there. It's a degree of of predictability about that income stream.

Speaker 0:
Yeah, how how predictable is your income stream? When you compare that against an annuity or against cash, for example,

Speaker 1:
it's

Speaker 1:
It's pretty predictable in all honesty, because I know the income I'm getting out of my I know the income I'm gonna see out of equities. It's a reasonable assumption to make that an equity portfolio ought to be able to grow its lot its income over and above the rate of inflation over a long period of time. So if the starting yield on my equity portfolio, you know, is an attractive mid single digit,

Speaker 1:
and that's going to grow ahead of inflation over time as corporate profits tend to grow ahead of inflation over time as the economy grows over time. And then I'm looking at a bond portfolio with a with a yield again in the mid single digits.

Speaker 1:
I can be confident I'm seeing that that level of income that's that's at or above those fixed rates being offered.

Speaker 1:
And I can be reasonably confident that should grow over long periods of time. So

Speaker 0:
you, the way you construct it, is you. You You really do think about that income stream and trying to grow that every single year, which I know you have to talk about your mother, don't

Speaker 1:
you? Yes, Absolutely. I mean, I. I honestly, I look at that income every morning, and I'm thinking, Are we gonna meet this month next month? The following few months monthly payments? And will the annual distribution grow in line or above the rate of inflation?

Speaker 1:
And if not, what do I have to do in the meantime, to achieve that? That's my primary focus. With this portfolio is income and income growth over time, the beauty is you would expect the capital return to tag along nicely behind that intellect. So So, actually what I've learned over

Speaker 1:
a substantial period of time running income funds through my career, although I wouldn't necessarily, you know, argue that income is a better strategy. The evidence suggests it is. The evidence suggests that you make better decisions when you consider valuations from the point of view of income

Speaker 0:
and kind of impose a discipline on you.

Speaker 1:
It's a fabulous discipline on a fund manager, actually, because because you are forced to say, Look,

Speaker 1:
these bonds, like last Autumn is a fabulous example where, you know, we had the UK pensions, crisis and bond yields spiked up. Now, of course, that's a scary moment, and lots of capital losses are being made, and it's very difficult out there. And of course, you know instinctively what you want to do when things are really difficult like that. Oh, I just want to sell all my bonds.

Speaker 1:
But as an income manager, you're looking and going Oh, look, you know I can not lock. The next five years of bonding come into this portfolio. These yields,

Speaker 1:
it forces you to make that difficult and scary decision and say, I need some of these my my clients, they want that income,

Speaker 0:
and that makes perfect sense. And And I suppose one of the questions is you talked about the future. What about the past, David? You know how how is how has this worked for you in the past that have raised this real focus on income and how you managed to grow that income historically? Well, we

Speaker 1:
always said to clients when when when we launched this as an income fund, we said, Look, what we want to achieve over long periods of time is a consistent level of income

Speaker 1:
that grows at or above the rate of inflation over long periods of time. And we spent a lot of time working out whether that was a plausible strategy and whether it was an achievable goal. And we said yes, that that that should be an achievable goal. And and we have achieved that over over time. And and I'm I'm very pleased with that because that's

Speaker 1:
to me something that a large number of end customers are going to want going forward and into the future. So you know, in a sense, you know the proof. The proof is in the pudding and and and it's been there and even in the very most difficult period of certainly my career during the sort of covid lockdowns when everybody was cutting their dividend. And, you know,

Speaker 1:
you know, authorities in in Europe especially were saying No, no, no, you can't pay dividends to companies and we're not going to let you pay dividends during this period. Happens to be the key dividend earning period of the year. So this this is this is really catastrophic. We're saying we're going to pay a final dividend. You know, we're gonna grow

Speaker 1:
in line with inflation, and and and suddenly all those dividends have disappeared out of the forecast. So how did you deal with that? So So you know, we sat down and we brush ourselves down and we say, Well, that dividends gone, that dividends gone, that's dividends gone. Where are we gonna find the income? We've told people we're gonna pay this income, We're gonna find it. And there's plenty of places in the world that weren't cutting their dividends that were pets still paying dividends that didn't have authorities telling companies you're not allowed to pay a dividend. So we we went to those places and got the income from there

Speaker 1:
and again, making those hard decisions during that period difficult period turned out to be advantageous for total return in the long run as well, you know, And this is why I've become a real convert to actually income as a discipline. If you're genuinely managing the income in a portfolio is a actually advantageous for total returns as well.

Speaker 0:
That's absolutely fascinating, David. So I suppose the question is you, you this all makes sense.

Speaker 0:
Why therefore, have more more people, more investors sort of found natural in. Is it because we've been living in a low inflationary environment, a low interest rate environment, or all the fear focus has been on, say, accumulation, for example, it's

Speaker 1:
all of that. And and we should look at this through a historical lens actually, joy, because if you dial the back, there's a lot of funds that have been around a very long time that are called income.

Speaker 1:
And back in the day, those funds they were used by clients for natural income in retirement. And, you know, when I started in the industry, you know, that was the the area to be in. You wanted to be an income manager because that was the hot area and it it outs sold all companies very attractively.

Speaker 1:
But of course, then we entered this period of low and falling inflation,

Speaker 1:
and as interest rates came down, growth stocks outperformed during low and falling interest rate environments. So so these relatively mature companies fell out of favour. Inflation came down. Protecting your income against inflation was less of a thing. If the capital values are growing very strongly over time, and so income management became not a thing and all those income managers,

Speaker 1:
they stopped actually worrying about the income on their portfolio because you couldn't keep up with the sector if you were also trying to grow the income on your funds. So you became a sort of quasi growth manager with a bit of a yield,

Speaker 1:
and that became the thing. So we've really lost the skill set of managing income and growing income, and then you had the GFC and you had QE. And of course, that led to a huge boom in growth stocks. And of course it it it meant right across the industry. Nobody worried about income anymore because you didn't need to your money was going up every year anyway. You just sell some units against that attractive CGT environment that could generate the income for you.

Speaker 1:
But in my view, that has all now changed. Inflation is back. It's going to persist over long periods of time.

Speaker 1:
And and many managers are gonna have to regain that skill set and managing income for this huge hump of post retirement clients who are moving into into that phase of their lives.

Speaker 0:
Thank you so much, David. You know, I really enjoyed talking to you today. It's been such great fun just listening to your enthusiasm for retirement income and natural income. Thank you for joining us. And also thank you to you, the viewer. Thank you for watching this

Speaker 0:
edition of talking market from Premier Marin, and we very much look forward to seeing you next time.