On the Money with Dynamic Funds

PARTICIPANTS

Daryl Diamond
Chief Retirement Income Strategist

David De Pastena
Vice President of Portfolio Solutions

Speaker 1: You're listening to On the Money with Dynamic Funds the podcast series that delivers access, insights, and perspective from some of the industry's most respected active managers and thought leaders. From market commentaries and economic analysis to personal finance, investing, and beyond, On the Money covers it all because when it comes to your money, we're on it.

David De Pastena: Welcome to another edition of On the Money. I'm your host, David De Pastena, Vice President of Portfolio Solutions. Today we're going to look at the asset classes to be able to build a paycheck portfolio for retirement income planning. To unpack some of these questions, my guest today is Daryl Diamond, Dynamics' Chief Retirement Income Strategist. He's also one of Canada's pioneers in creating efficient retirement income. He's got over 44 years of experience and he's a bestselling author. Daryl Diamond, it's great to have you here.

Daryl Diamond: David, wonderful to be here. Thank you.

David: In constructing a paycheck portfolio, the asset classes we need are slightly different than building a traditional retirement income portfolio. If we wanted to put together one of these portfolios, where should we start off?

Daryl: Well, as the name of the strategy implies, we want to have investments that provide us with the ability to create a paycheck to be delivered on a regular basis to the retiree. For us, when we were building portfolios for our clients, what we looked at within this strategy was the idea of using those investment funds and or ETFs that did provide a regular monthly distribution and had a track record, importantly, of doing so over a reasonable length of time.

David: What you're saying, Daryl, is consistency and sustainability of that dividend through time, even through bad markets. Is that correct?

Daryl: It's one of the most important considerations an advisor can put forward to their clients when making recommendations for their strategy. What's the track record? How long have these people been doing it? Do you have, as the advisor, the confidence in outsourcing the responsibility for this money management to those managers on behalf of your client?

David: If investors wanted to put together a paycheck portfolio, what type of asset classes do they need to look at?

Daryl: Well, there's the obvious traditional things such as stocks and bonds, but there are other options that in this strategy have a place. That would be real estate, private equity, REITs, and alternatives. Those all play a role in a well-diversified paycheck portfolio, not just in terms of assets, but in terms of the type of income to be delivered.

David: Real estate, private equity, and alternatives. We've been in a different interest rate environment, and over the last 20 years, we saw interest rates at all-time lows, and now we're in a different environment where interest rates are a lot higher. What about things like annuities and GICs? Do they have a place in a portfolio?

Daryl: Most certainly, there are opportunities for annuities, for GICs. Obviously, the annuity would be a separate entity unto itself from the traditional paycheck portfolio, but the same idea comes into play, that it could be in the form of a pension, it could be in the form of a non-registered annuity. Currently with higher yields on GICs, I'll qualify this, for some shorter-term needs, that may be an option for some client capital to generate income. Always aware, by the way, I hesitate to use the word guarantee because the income isn't guaranteed from a GIC. It is for the duration of time the certificate is issued, but after that, you're at the mercy of renewal rates, and ask anyone who is relying strictly on GICs in the mid-1990s how everything worked out over the 20 years you just identified with very low rates. It is a big challenge.

David: That yield we get today isn't consistent through time, of course.

Daryl: With GICs, no. In fact, there's an organization called the RIIA, Retirement Income Industry Association out of the US. It's major money houses, pension managers, and as an association, they don't view GICs or CDs, as they're called in the US, they do not view that at all as a form of guaranteed income because of the variability you've just mentioned.

David: That's really interesting. With the proliferation of pool-type products like tontine-type products, do you think they have a place in a paycheck portfolio? Can you comment on that?

Daryl: In terms of a new offering, so let me divide that into two, if I may. On the first side, I think it's always interesting and constructive, and creative for organizations to come forward with some tools, some investment options that perhaps can address specific concerns that retirees may have. I know that that was the intent of the tontine-like products because there were a few that were introduced. Unfortunately, for a couple of them, they came out right at the beginning of 2020, which is not the most wonderful time in hindsight to have launched a particular fund.

There may be, as is the case with any strategy or any investment portfolio, there may be a fit for those types of offerings in certain situations, but I think you've seen that they don't have the broad appeal that was anticipated, and there are a number of reasons for that. In certain isolated circumstances, they may have a fit for a portion of someone's retirement capital but I'm not a big fan. If you haven't already determined that, let me state it clearly. There are much better options available through paycheck portfolio investments that have great application, great flexibility, and certainly a much longer track record in terms of performance.

David: Daryl, we've all seen some of those commercials on TV promising high yields for new products. What are some of the things retirees and our listeners should avoid when choosing funds to be able to build an effective, sustainable paycheck portfolio?

Daryl: I've alluded already to the importance of a track record for the managers who are being entrusted with this task, if you will, of delivering the income through those investments that distribute a regular monthly amount of money out of the portfolio. Why I'm bringing that up is that when you think about it, for managers that are in charge of those investment funds or ETFs that provide a regular number of cents per unit per month distribution, it's not about them simply managing the money, but they're also responsible for delivering that income for the client.

Again, I hearken back to, I may love the idea of a heart surgeon performing an operation on me who's just out of school and has all the new information at hand and is familiar with new tools to use, but by the same token, I want someone who has had the experience of doing this over and over and over again, knows how to navigate problems or issues that arise during the operation, I'm going to be far more comfortable with that doctor. Same thing holds true with the selection of particular managers here. You want that experience and track record.

This is not an auction in terms of the commercials you mentioned, like an auction where you see 8% yield, 9.5% yield, 13% yield. Yield is an important consideration, but yield is payment relative to amount of capital, and that's always a varying number. Is that a sustainable yield or has the investment performed that poorly that what was what 9% yield at one time is now 14%, just simply because of that comparative ratio of income to asset value or NAV value?

In terms of the new offerings, I know that they catch people's attention, but boy, be careful because, especially when you're dealing with extremely high distributions relative to even high yields we have from stocks and bonds today, you want to know that there's a process and you want to see that process and how it's performed over time in action. That information is not readily available in the marketplace today with a lot of the things we see on TV.

David: Let's talk about rebalancing and academics will say rebalancing is important and some will say that it's not. What do you think and why?

Daryl: Well, rebalancing is an essential factor in the sense of just being compliant as it relates to what the investor profile tells us. When we were putting together paycheck portfolios for our clients, we were really looking at it from three perspectives in terms of which investments we chose to create the portfolio. The first was, what did we need as an actual distribution yield to satisfy what the client either wanted or needed in their situation? Again, that might've varied by account.

Our preference, David, was to use balanced positions as, certainly, the bulk, sometimes in the entirety of the portfolio we were putting together. Why we did that is that, again, we were outsourcing the responsibility, not only for money management but for the delivery of income, as I previously mentioned, to the managers. We also wanted them to be responsible for the asset allocation in one sense, and secondly, to give them the discretion to overweight or to push capital into asset classes they thought were best suited to fit the obligation they had. We wanted to give them a lot of discretion and flexibility. Balanced funds for us in that context formed a large part of what we would use for creating the portfolios.

The second of the three things is that, in addition to that, we wanted to be vigilant on, in non-registered accounts, the taxation. The delivery of the income would take on a different form of tax results each year because of different management decisions aside from the regular income streams, capital gain, capital loss, return of capital. The issue, secondarily, of how is this income being delivered and is it, in our opinion, on a tax-efficient basis that's complementary to the rest of the income streams we have in play in any client situation. The third thing that we would do of the three is, and this is just our practice, it's not to say everybody would want to or has to do this. We took a stance where we wanted our fees as the advisor to come from the distribution itself. In that way, if you just follow it through, we had delivery of income to the client, we were being paid for our services, and in no circumstance were we selling units of the investment with the exception of when we started to get past the minimum withdrawal requirements that forced us to take some money out. The delivery of income never involved the sale of units, and we were paid from the distribution, so that was not seeing a sale of units either. The number of units stayed intact and that was important, in our opinion, to the overall strategy.

David: Essentially, on that third point, is the client has their cake and eat it too. They got a nice cash flow and yield, and their fees were paid with this type of strategy. Is that correct?

Daryl: That is correct. What's interesting, David, we emphasize the retention of the number of units over and over again in client reviews. That became a talking point as we went through different types of markets where clients said, yes, I know the value of the account is down, but you know what, I still got the same number of units. That may sound like a minor thing, but in times of volatility or even sideways markets, that's an important fact and it's an important observation. We promoted the vigilance on that by the clients because it gave them a degree of comfort during difficult and volatile times.

David: That's essentially because we're not selling units in a down market and not letting the portfolio heal. I'm curious, Daryl, when it comes to growth investments, is there really a place for them in this strategy, in this approach?

Daryl: Absolutely. Again, it depends largely on the amount of capital that we have in any one account, whether that be a TFSA, a REF, LIF, non-registered. From the point of view of what we call cascading, we would implement a layer of growth. Just to give a very simple example, let's say we had a million-dollar portfolio. We might have 100,000, 150,000, 200,000 dedicated to a growth strategy. We may have some money in cash, just a small amount in case we needed to access it for some reason. In between, we would have income-generating investments, funds, or ETFs, and again, reiterating, that would pay out a certain number of cents per unit per month to create the income.

As we went through our time frame, our time period, we would selectively move some of the appreciation from the growth portion of the portfolio down into the distribution investments and simply increase our income. It was a way for us to look at how we dealt with inflation.

David: Essentially, the growth investments, when you had enough capital, actually gave an increase in their paycheck.

Daryl: That's absolutely correct, David.

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David: Thanks Daryl for all the gold nuggets and digging deep into the asset classes to actually build a paycheck portfolio. This is another edition of On the Money. On behalf of all of us at Dynamic Funds, we wish you all continued good health and safety. Thanks for joining us.

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