Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 121

Misplaced focus on high yielding stocks in retirement

A lot of people seem to view high yielding stocks as the silver bullet for retirement plans. I’m less sure. In many circumstances the focus on income can be flawed, risky and difficult to implement. Return and risk are key to any investment decision.

There are two possible sources of economic return from any asset: income and capital gain. In Australia income and capital gains are taxed differently but this is a non-issue for assets in an account-based pension.

The focus on income has manifested itself lately in equities with the logic being as follows: a high yielding stock, especially one with franked dividends, may be able to meet all the necessary income requirements in the drawdown phase, leaving the capital pool untouched (but importantly variable in value) for uses such as one off discretionary spends, aged care admission, or bequests.

This may well prove the case but it doesn’t mean this is the best retirement investment strategy. There are clear challenges to this line of thinking, real world realities to face up to, and risks to consider.

Challenges to the income-focused model

These days, transaction costs are very low, removing an impediment to realising capital gains to fund retirement spending. Consider the following two scenarios:

  Stock A Stock B
Yield 6% 2%
Change in Price 2% 6%
Total Return 8% 8%

Is there any reason why, if we assume negligible transaction costs, a retiree should prefer Stock A to Stock B? To meet retirement spending requirements, we would account for our income and make a decision of what to do with our capital. From a transaction cost and tax perspective there appears little difference. One may say that it is more convenient to invest in Stock A as the income payment is received and so an active decision to sell down is not required (perhaps there is a behavioural reason why people are hesitant to sell assets in retirement). However, there is a situation where the dividend income may prove too high or the timing (dividends twice per year) doesn’t match our spending plans, requiring an active reinvestment decision (which could also prove to be behaviourally difficult). Capital allocation decisions are largely unavoidable.

Risk cannot be ignored in retirement. Even if a stock generates a high yield, it can still be a volatile stock. One school of thought is that price variability is irrelevant if income levels are secure and high. I find this notion hard to accept, even if someone has very high asset levels.

Consider the case of a retiree with low assets:

  • The yield may not provide sufficient income, or indeed too much income, creating the need to sell down or reinvest. Any need to sell down to meet spending requirement shortfalls breaks the foundations of the income model, which is based on the ability to hold on to the pool of dividend generating stocks

Consider the case of a retiree with high assets:

  • The income from dividends may meet all of the retiree’s spending needs. While there may be some cash left over the reinvestment risk does not critically impact on future retirement cash flow which is assumed to be secured through future dividend payments. However the size of the capital pool to meet discretionary spending and bequests could be highly variable.

Volatility cannot be ignored for low balance retirees (as they will likely need to sell down to meet retirement needs) or for their high balance counterparts (as surely they have some preferences around the size of their account balance which supports one-off spends and bequests). At best, a yield focus is based on some brave assumptions, or less polite, it is a flawed strategy.

Support for income-focused model

There are some investment-based principles which could lend more support to an equity-income focused approach, including:

  • The market, due to the presence of offshore participants, undervalues franking credits
  • Growth strategies, funded by companies reinvesting their equity into opportunities perceived to be unattractive, may not prove successful, and so paying out earnings as dividends is a good strategy
  • The market may have a behavioural bias to overvalue growth (a ‘hope’ bias or a potential thrill of being associated with a successful growth stock) and higher yielding stocks may be undervalued hence attractive.

The above points are views and opinions, not facts; they are highly debated in industry and academia because each one suggests that in some way markets are inefficient. One would need to have strong conviction to use these points as the basis for a retirement strategy.

Retirement drawdown patterns

Retirement strategies cannot be designed without considering real world complexities. The most relevant here is the type of retirement drawdown vehicle. Consider the difference between SMSF’s and the account-based pension products provided by super funds:

  • An SMSF could effectively implement a dividend-yield based retirement strategy, particularly if the SMSF had only one member so that the income level could be targeted appropriately
  • A super fund solution would have multiple leakages. The account-based pension asset pool is subject to constant change (inflows from assets being transitioned from super) and payments (different levels to different members). Super fund products typically run to prescribed cash targets and so much of the dividend payments received would be reinvested

For an SMSF, a dividend yield strategy could be implemented as part of a retirement plan but for a super fund account-based pension solution, there would be much slippage as there are other significant cash flows which would break the path between dividend receipt and member payout. If a super fund account-based pension had a strong focus on equity income, it should really only be based on their market views.

(A post-script to the above paragraph is that if an SMSF implemented such a strategy through investing in a unit trust then they also need to be careful. A unit trust may focus on dividend yield but the distribution to investors can be impacted by other factors such as the flow of funds in and out of the trust.)

If the retirement strategy is built on the foundation of equity income, there needs to be great confidence in the quality and sustainability of that income. If the dividend stream stumbles, the financial plan tumbles: planned income is no longer available and a capital loss would be likely.

Not a silver bullet strategy

In summary, focusing on dividend yield as a retirement strategy can be dangerous. Risk and return are much more important than income in liquid markets with low transaction costs. Focusing on dividend yield alone is flawed as it ignores the preferences of the individual regarding their capital reserves. There are investment-based views as to why high-yielding stocks are attractive, but these are views not facts. SMSF’s can implement a yield-based retirement strategy if they want to, but should be careful with how they implement (directly versus unit trust products), while for the account-based pensions offered by super funds a strategy based on equity yield should only be based on investment views.


David Bell is Chief Investment Officer at superannuation fund Mine Super. He is also working towards a PhD at University of NSW. This article is for general education purposes. Individuals should seek financial advice, but challenge their adviser if they recommend a strategy purely based on equity income.


Paul from Brisbane
February 11, 2016

As a planner who for over a decade has used the yield in retirement strategy, I disagree wholeheartedly with the inference that focusing on yield in retirement is "dangerous". The biggest danger in retirement is the sell down of "units" of capital to fund everyday living needs. Once sold the return on these units can never be replenished. This is why it's imperative to have (depending on risk profile) 3-4 years of income in cash, any yield shortfall through company based problems or economic slowdown can be topped up with the cash holdings, retaining the full units of investment intact. Have used this for clients through the Dotcom boom/bust, 2001 terrorists attacks, GFC, 2011 market correction and it still tops my preference for strategy. The biggest danger in retirement is having a strategy where your drawdowns are predicated on capital growth. Growth is the one thing you CANNOT rely upon.

Terry Dwyer
August 14, 2015

I am not sure I entirely agree. The nineteenth century approach of never spending capital has a lot to commend it. Dividends are often a sign of future sustainable income whereas capital gains can become capital losses and represent no "commitment" by the company as to what it thinks it will be able to pay you. I would be perfectly indifferent if companies could semi-promise capital gains.

August 07, 2015

Thanks David. Well done for throwing the spotlight on an important issue.

A lot of the commentary we see in this area implicitly assumes that the retiree's goal to source their income in retirement entirely from income (i.e. with no drawdown from capital), thus leaving the capital untouched and hence as a bequest.

This is the same line of thinking we see in the argument "a retirement account of (say) $500,000 invested in cash at 3% yields $15,000 pa" and then comments on the (lack of) adequacy of that income to meet retiree's needs (even after it is supplemented by the age pension).

In my view this implicit assumption is questionable for all but the highest wealth retirees. With most retirees emerging with low or modest retirement balances, drawing down capital over retirement is essential to reaching any sort of reasonable income, and it is misleading to suggest otherwise.


Leave a Comment:



Moving your SMSF into pension phase

What SMSF trustees need to know about benefit payments now

When the $1.6m cap is no longer relevant


Most viewed in recent weeks

Lessons when a fund manager of the year is down 25%

Every successful fund manager suffers periods of underperformance, and investors who jump from fund to fund chasing results are likely to do badly. Selecting a manager is a long-term decision but what else?

2022 election survey results: disillusion and disappointment

In almost 1,000 responses, our readers differ in voting intentions versus polling of the general population, but they have little doubt who will win and there is widespread disappointment with our politics.

Now you can earn 5% on bonds but stay with quality

Conservative investors who want the greater capital security of bonds can now lock in 5% but they should stay at the higher end of credit quality. Rises in rates and defaults mean it's not as easy as it looks.

30 ETFs in one ecosystem but is there a favourite?

In the last decade, ETFs have become a mainstay of many portfolios, with broad market access to most asset types, as well as a wide array of sectors and themes. Is there a favourite of a CEO who oversees 30 funds?

Betting markets as election predictors

Believe it or not, betting agencies are in the business of making money, not predicting outcomes. Is there anything we can learn from the current odds on the election results?

Meg on SMSFs – More on future-proofing your fund

Single-member SMSFs face challenges where the eventual beneficiaries (or support team in the event of incapacity) will be the member’s adult children. Even worse, what happens if one or more of the children live overseas?

Latest Updates


'It’s your money' schemes transfer super from young to old

With the Coalition losing the 2022 election, its policy to allow young people to access super goes back on the shelf. But lowering the downsizer age to 55 was supported by Labor. Check the merits of both policies.

Investment strategies

Rising recession risk and what it means for your portfolio

In this environment, safe-haven assets like Government bonds act as a diversifier given the uncorrelated nature to equities during periods of risk-off, while offering a yield above term deposit rates.

Investment strategies

‘Multidiscipline’: the secret of Bezos' and Buffett’s wild success

A key attribute of great investors is the ability to abstract away the specifics of a particular domain, leaving only the important underlying principles upon which great investments can be made.


Keep mandatory super pension drawdowns halved

The Transfer Balance Cap limits the tax concessions available in super pension funds, removing the need for large, compulsory drawdowns. Plus there are no requirements to draw money out of an accumulation fund.


Confession season is upon us: What’s next for equity markets

Companies tend to pre-position weak results ahead of 30 June, leading to earnings downgrades. The next two months will be critical for investors as a shift from ‘great expectations’ to ‘clear explanations’ gets underway.


Australia, the Lucky Country again?

We may have been extremely unlucky with the unforgiving weather plaguing the East Coast of Australia this year. However, on the economic front we are by many measures in a strong position relative to the rest of the world.

Exchange traded products

LIC discounts widening with the market sell-off

Discounts on LICs and LITs vary with market conditions, and many prominent managers have seen the value of their assets fall as well as discount widen. There may be opportunities for gains if discounts narrow.



© 2022 Morningstar, Inc. All rights reserved.

The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.

Website Development by Master Publisher.