Maybe Christine Benz, the personal finance specialist at Morningstar, is a regular reader of our blog. Or maybe she just gets it. She wrote a great piece on what income investors should avoid. Here’s a section of it:
Is it even healthy to focus on generating income, particularly if doing so comes at the expense of total return? Is generating a livable yield from a portfolio a vestige of a bygone era? No and yes, I’d say.
It’s easy to see the intuitive appeal of being able to live on the income you earn from clipping bond coupons, yet being too income-focused carries its own set of pitfalls. A key one in today’s low-yield environment is that you have to venture into very risky stuff to generate a livable yield, and that could erode your principal in the process. And by focusing unduly on investments that kick off income, you also risk starving your portfolio of the capital-appreciation potential that comes with stocks. True, stock returns have been no great shakes over the past decade, but bonds may well fight their own uphill battle over the next one.
The bottom line is that most people will have to tap their principal to fund living expenses in retirement, so the key aim for most retirees and pre-retirees should be to grow those retirement kitties as large as they can. If they have to tap their principal, they’ll be tapping a larger base than if they had focused on income without regard to total return. Investments that generate current income aren’t bad, but total return is your real bottom line.
[The emphasis is mine.] This is exactly what we wrote about on 4/16 in a post on investing for income. We made the added point that capital gains can be spent just as easily as income, so there is no reason not to focus on total return. We also had a suggestion for how an income-oriented investor might be persuaded to incorporate growth into the portfolio. I don’t always agree with Morningstar’s orientation on investing-they tend to think that value is the only way to go-but I think their take on investing for income and the dangers of only paying attention to the current yield are right on the money.
