Investing successfully for your stage of life

The information in this article is market commentary only and reflects Lincoln's views and beliefs at the time of preparation, which are subject to change without notice. To obtain up-to-date information, please contact us.

The share market can play an important role in building or maintaining long-term wealth. Your investment approach should be based on where you are currently positioned in life, your present net wealth and your tolerance to risk.

The 2019 financial year was a clear example of the returns possible from Australian shares, which significantly outperformed the other major asset classes.

Chart of asset class performance.

Source: Lincoln Indicators, Bloomberg, Corelogic

This continues a period of strong performance for markets where over the past 20 years the All Ordinaries, including dividends, has returned on average 8.50% per annum.

Source Lincoln Indicators August 2019.

Even greater performance is possible for investors who adopt an appropriate framework for decision making that blocks out the noise in the market and allows investment choices to be made on logic, not emotion.

Lincoln’s Star Growth Stocks and Star Income Stocks show that strong long-term returns are possible through the combination of disciplined investment and a rigorous research process.

Our Star Growth Stocks, for example, have returned 18.90% average annual return since inception (01/09/1995 to 31/07/2019)^, and our Star Income Stocks have returned 15.14% average annual return since inception (07/08/2012 to 31/07/2019).^

It’s important to note that while the average return seems impressive, in between markets can be volatile. In fact, over that 20-year period, five years – or one in four – delivered negative performance for the All Ordinaries from a total return perspective.

Significant downturns at the wrong time of your investing journey could have a disastrous impact on net wealth, your mental well-being and ultimately your ability to live a comfortable life.

What stage of life are you at?

When investing in the market, we need to presume that at some stage in the future the market will pullback 50%. No one knows when it will happen (e.g. the market could go up 300% before it happens), so this is something that we as investors cannot ignore.

History tells us that markets will eventually recover over the long term, hence investors should focus on quality businesses – in line with your risk tolerance and stage of life – as these are likely to outperform. The questions that need to be asked are “How long term is your long-term?” and “How crucial is your current asset base to fund your immediate life needs?”

chart of ASX Long term grey blue 2019-07-31_11-52-38

Source Lincoln Indicators.

Your response will not solely be dependent on age, but also on your current net worth. What might start as a pool of funds suitable for a ‘comfortable retirement’ can quickly be drained due to healthcare needs or other life expenses that may kick in. Therefore, the inherent volatility that comes with equities must be considered when determining your investing approach.

Before you start the journey of building a share portfolio and filling it with quality companies, you first need to understand what your objective for investing is, and what you need your investments to deliver.

Here are some examples of different stages of investing life and how shares can play an effective role in a holistic portfolio.

Accumulation phase (18 – 50 years old)

Picture of accumulation-phase-family

The share market is a wonderful asset class for building long-term wealth, which is what the accumulation investor is trying to do. Often, this type of investor will be employed and is focused on building a nest egg for retirement. The earlier an investor starts the better, as they stand to benefit not only from the long-term returns, but also from the power of compounding. Even if the market falls for a period, with time on your side, being disciplined and seizing the opportunity to buy quality stocks at lower prices is an effective way of building value.

Markets have historically performed strongly over the long run, so investors in accumulation phase can afford to be more aggressive with their investment strategy. However, a strategy entailing 100% risky companies rarely rewards shareholders. Investors in accumulation phase should focus on fundamentally healthy businesses which exhibit quality factors and are expected to grow. These stocks are encapsulated in our Star Growth Stocks.

Transition phase (50 – 65 years old)

Smiling mature businessmen sitting at coffee shop talking over phone with document in hand.

The late stage employment / pre-retirement phase is one where an investor will be ploughing as much free capital as they have into their investment portfolio.

While capital preservation may be important for those that have already accumulated a significant amount of wealth, for some there may still be a requirement for capital growth, just without the appetite for significant risk. Investors in this stage may manage the risk by reducing their overall allocation to the share market, or by taking a more defensive stance to their investments in growth stocks.

Investors who are more cognisant of capital preservation, may consider investing in more defensive income stocks. However rather than take the dividend out of the portfolio when it is paid, they choose to re-invest it back (into either the same or alternative stocks) to benefit from compounding performance.

Retirement phase (65+ years)

In this phase there is no more cashflow being generated from gainful employment. Therefore, the focus of this investor is to generate enough replacement income from their total asset pool to sustain their lifestyle and to cover any essentials that may arise.

Investors in this stage of life may need to ensure they always keep a certain proportion in cash and liquid assets to meet their immediate funding needs. This amount ought to be secure from volatility and should cover 1 – 2 years’ worth of income needs. If possible, it should also cover key life expenses such as aged care costs or inheritances. Since it’s feasible that markets can correct by 50% over a protracted period, locking funds away ensures safe draw downs when the money is required.

All other investments should be in shares, and other high-yielding assets, that can generate enough income to support future cash needs, and/or continue to grow the pool of assets. The amount an investor can continue to commit towards growth at this stage will depend on their net worth. Those with $3 million or more, for example, will likely not be as sensitive to a catastrophic market event as someone with under $1 million.

However, if you become totally reliant on the share market as your sole source of future income and your capital position can’t withstand a 50% pullback in the market, then talk to a financial adviser about an annuity or other product less prone to market volatility.

Investment planning checklist

Hopefully you are now aware of how your current stage of life impacts the amount of capital you can allocate to the share market. Before embarking on your investing journey, or even making your next share investment decision, consider the following exercise to help determine your financial priorities.

  1. What stage of investing are you currently at?
  2. How much of your total net wealth (excluding the family home) will you allocate to the share market? (shares + cash for investing in shares)
  3. How much will be dedicated to a growth and/or income strategy?
  4. In your portfolio, classify each stock as growth/income/both
  5. Are you within your thresholds (based on $)?

If you’ve decided to proceed with having a share portfolio as part of your total investing mix, then your next consideration should be whether you plan to do the investing yourself, or have an expert manage your funds for you.

Lincoln Indicators offer 2 key products to support this journey – Stock Doctor, Australia’s premier DIY investment solution, and the top performing Lincoln Managed Investments.

Contact us for an obligation free discussion on whether one of these solutions may be right for you.

ELIO D’AMATO (@Elio_DAmato)

Information correct as at 30 August, 2019, unless otherwise indicated.

^ Performance figure for Star Growth Stocks quoted is from 01/09/1995 to 31/07/2019, and is annualised.

^ Performance figure for Star Income Stocks quoted is from 07/08/2012 to 31/07/2019, and is annualised.

Past performance is not a reliable indicator of future performance.
The Star Stock criterion has not remained constant but has been revised and updated over time. The quoted performance reflects actual Star Stock recommendations as they have been published to the public over time and have not been retrospectively implemented.
Star Stock Past performance: Star Stock (encompassing Star Growth and Star Income) returns were calculated by Lincoln as a measure of the historical performance of the strategy for the notional portfolio, reflecting the changes in recommendations and the performance of them over time and do not represent an actual investment. Investments go up and down. Past performance is not a reliable indicator of future performance and should not be relied upon.
The performance over the stated time period/s reflects the capital return and dividend income paid on a notional portfolio that is equally invested in each Star Stock at the commencement of the relevant performance period quoted. The portfolio is rebalanced to equal weight exposure when the composition of the notional portfolio changes. Dividend distributions are reinvested in the specific investments which generate the distribution on the appropriate ex-entitlement dates.
Transactions are calculated at the closing prices for the next trading day and it is assumed there is sufficient market liquidity to make the required trades at this price. Transaction costs of 0.5% on each purchase and sale have been incorporated into the performance figure. The calculation makes no allowance for other distributions, government charges or tax, or annual subscription fees payable to Lincoln.
Performance varies positively and negatively month to month reflecting the volatility of the equities asset class. Therefore, no performance figure should be taken as a reliable indicator of future performance.
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