With Australia’s official cash rate at a record low, finding secure income-generating investments for your SMSF can be challenging. It’s wise to choose a diverse mix of assets that will enable you to reduce risk while keeping your portfolio income relatively high and staying ahead of inflation.
If you’re managing an SMSF, retired or approaching retirement, then you’re probably more interested in learning how best to protect your capital, while maintaining a stable income stream.
Here are three income-producing investments to consider.
Fixed-interest investments including government and corporate bonds have long been favoured by retirees as solid defensive assets that can provide a steady source of income while helping to preserve your capital.
Buying bonds can be thought of as extending an interest-only loan to the bond issuer, which is usually a company or a government, for an agreed period. They pay interest at regular intervals, and generally at a higher rate than can be earned from a savings account or bank term deposit.
When a bond is first issued it can be purchased directly from the issuer. Thereafter, they are traded on a secondary market such as the Australian Securities Exchange (ASX). Many bonds like government bonds, offer high liquidity, meaning they’re easy to sell if you need to free up money quickly.
While bonds are generally considered to be safer investments than growth assets such as shares and bonds they are not without risk. Losses can occur should the issuer default, i.e. fail to make the agreed payments within the specified period.
The bonds with the lowest default risk are those issued by governments, such as Australian Government Bonds (AGBs) or US Treasuries, but they also pay the lowest rates of interest. Lower-quality bonds pay much higher rates of interest, but they are often referred to as ‘junk bonds’ because of their greater risk of missing payments.
Another source of risk for bondholders is the sensitivity of fixed-income investments to changes in interest rates and inflation. If interest rate or inflation expectations rise, for instance, the value of a bond or other fixed-income investment may decline, potentially causing capital losses for investors.
Exchange Traded Funds (ETFs)
Many SMSF investors may already be familiar with exchange traded funds. ETFs are a type of security that tracks an index, sector, commodity, or other asset and can be bought and sold in the same way as shares on an exchange such as the ASX.
ETFs typically don’t try to outperform markets, rather simply reflect daily changes in their value. Over the last few years, the number of ETFs has multiplied, with a range of options available, including ETFs designed to generate income.
For example, there are several ETFs available that track the ASX200, i.e. a basket of the shares of the 200 largest companies listed on the ASX. Other ETFs may aim to track international shares, specific industrial sectors such as mining or financials, or precious metals or commodities.
ETFs are one tool you can use to add investment portfolio diversification for your SMSF, with exposure to asset classes across sectors, markets and geographies. Because they are traded on the ASX, ETFs offer speed, transparency and liquidity.
Index based ETFs usually aim to track the performance of a specific market or strategy in an efficient and low-cost way.
SMSFs and retirees can benefit from ETFs that are designed to provide investors with regular income streams. Some may invest in bonds and other fixed-income products, while others offer investors exposure to income from dividend-paying shares.
Bond ETFs have made it easy for small investors to gain exposure to fixed-income investments.
Before buying in, however, you should do your research and consider for example the credit ratings and interest-rate risk of the ETF’s underlying securities, as the risks that come with bonds apply here too.
Some income-focused ETFs target shares that have higher forecast dividends than other ASX-listed companies. They offer regular distributions to investors who hold units in the fund, which are effectively the unitholder’s ‘share’ of the dividends paid by the shares the fund holds.
As with any equity investment, however, there is a risk of capital loss should the value of the ETF’s shareholdings fall. And the income they generate is not guaranteed either: for example during 2020, many companies deferred or halted their dividend payments, reducing the distributions from dividend ETFs.
ETFs are often seen as a low-cost option, however, remember you will pay a management fee and also pay brokerage when you buy and sell, and these costs can add up.
Managed funds can provide investors such as SMSFs exposure to wide range of investment opportunities, helping to diversify their portfolios across asset classes, sectors and geographies they may otherwise find difficult to access.
As is the case with ETFs, you don’t own the managed fund’s underlying investments, you own ‘units’ in the fund which can be bought and sold according to the rules of the fund. Managed funds may or may not be listed on an exchange.
The aim of a managed fund is to deliver competitive income for investors.
Types of managed funds available include single-asset managed funds that target specific securities such as shares or bonds, and multi-asset funds that invest in a range of asset types.
Property trusts; are a type of managed fund, also called property syndicates, provide investors with an alternative way to invest in or hold part ownership of property without having to make a direct purchase. Many are designed to provide investors with regular income from the property or properties in the trust during the life of the trust.
Mortgage trusts; are another form of a property-based managed fund. When you invest in a mortgage trust, your money is usually pooled with the money contributed by other investors. This pool of funds is then used to provide loans to borrowers, with the loan secured by a registered first mortgage against property provided by the borrower.
Mortgage trusts aim to provide regular income without the same level of exposure to volatility that equities can entail. Mortgage trusts are medium-term investments according to Moneysmart, which means investors’ funds aren’t available at call, but neither are they locked up for a set term, with most trusts permitting partial or full withdrawals after a specified notice period.
It’s important for investors to be aware that all investments carry risk, including the risk of losing part or all of their capital or diminished returns. Managed funds don’t offer the same level of capital security as some traditional deposit options, but the higher risk profile is reflected in the competitive returns offered by many managed funds.
Important things to note
As with all investments, there are risks as well as potential rewards associated with investing in a mortgage trust or diversified income fund. A licensed financial adviser can help you better understand the pros and cons of different investment types. We always recommend investors obtain, read and understand the relevant offer documents and seek advice from a licensed financial adviser before investing.
Trilogy is one of Australia’s leading fund managers, and specialises in managing mortgage trusts, property trusts and other funds that all share the common goal of providing income to help investors achieve their financial goals. To learn more chat with our Investor Relations team today.
This article is issued by Trilogy Funds Management Limited ACN 080 383 679 AFSL 261425 (Trilogy) and does not take into account your objectives, personal circumstances or needs, nor is it an offer of securities. Investments in Trilogy’s products are only available through the relevant PDS issued by Trilogy and available at www.trilogyfunds.com.au. All investments, including those with Trilogy, involve risk which can lead to loss of part or all of your capital or diminished returns. Investments with Trilogy are not bank deposits and are not government guaranteed.
Investing for income in a low-rate environment: 3 income-producing investments to consider
Last Updated: 10 May 2021
Published: 10 May 2021
Originally Appeared Here