Enhancing Income

After all is said and done, good cash flow is what determines the lifestyle your clients will experience in retirement.  When you are planning for the income needs of a client during retirement, the need for that income to last throughout their client’s life is paramount.  One of retiree’s biggest fears is that they will run out of money during retirement.  While living longer is a great thing, it also poses a challenge for advisors.

As part of their plan, many planners will place their clients into a 40/60 stock/bond portfolio to be able to weather the major financial storms.  They do this because of the reduced volatility that normally accompanies bonds and the ability to distribute income for multiple years without havening to sell equities at a potential loss. The large bond allocation leaves less capital available to be place into stocks for purchasing power protection.  Under this model, many planners advise their clients not to withdraw more than 3-5% of the portfolio each year to ensure that their clients do not end up running out of money.

First of all, because of the Integrated Options Portfolio (IOP) characteristics, we believe that your clients will have more money to begin with when they go into retirement.  This is accomplished by owning their portfolios indirectly through the use of options and a counterbalancing, fixed income portfolio.  Some of the potential benefits of this combination include lower risk, increased returns and higher income.  This system of ownership is described more thoroughly in the IOP section of this website, but as illustrated by the graphs below; our models can improve the returns of what is owned in the portfolio, even as risk is simultaneously reduced.

Second, because of the decreased likelihood of severe drops in a client’s account value when they are positioned in an IOP, clients can more easily recover from downturns in the market.  This allows them to maintain larger “virtual” stock positions to be able to profit from in bull markets.  We say ”virtual” because we own options on shares of stock, which have the potential to profit in much the same way as owning the same number of shares directly when the stock fund’s price increases.  We don’t actually own the shares and only pay a small fraction of what it would cost to own those shares directly.  So in reality, we have a reduced exposure to the stock price in bear markets.  This gives us more potential growth which means more income, yet similar or even lower risk.

The following pie charts compare the proportions of assets.  The first chart shows an asset allocation that many direct ownership type asset managers might recommend for someone nearing retirement.  The second is the “Virtual IOP”, which demonstrates the equivalent position that would have to be taken in a direct ownership method in order to profit similar to an IOP in flat or bull markets.  The last chart gives us the actual makeup of the portfolio, which tells us how the IOP will perform in bear markets.  Notice that most of the portfolio is in what most professionals would consider to be more conservative and stable assets.

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Third, when a limited upside return is acceptable to the investor, we can modify the IOP to produce more income and lower risk even further.  It actually works better than the standard IOP in sideways or down markets, but the tradeoff is the limited upside potential.  Call if you’d like more information on this topic.

Bottom line: Our models show that a 6% withdrawal rate is very feasible.  When your clients can enter retirement with more money and a higher withdrawal rate, they’re going to have a lot more income.  Merely taking an existing withdrawal rate from 4% to 6% increases the client’s income by 50%!


We invite you to explore the many benefits of Desert Rose Capital Management, Inc. Let us prove to you why we believe that there is no better way to invest in the market.