Peter Lynch is a highly successful investor. He’s enthusiastic about stocks that increase their dividends year after year. By contrast, Mr. Lynch cares little for investing in bonds. But a retirement portfolio also must cover your cash needs for at least the next five years.
Peter Lynch managed Fidelity’s Magellan Fund from 1977 to 1990. A $1,000 investment in 1977 was worth $28,000 13 years later. That’s an excellent average annual compound return of over 29.2 per cent.
Mr. Lynch is enthusiastic about stocks. But he cares little for bonds. The first chapter of his book Beating the Street is entitled Escape from Bondage. Mr. Lynch writes: “Buy stocks! If this is the only lesson you learn from this book, then writing it will have been worth the trouble.”
“If you hope to have more money tomorrow than you have today, you’ve got to put a chunk of your assets into stocks. Maybe we’re going into a bear and for the next two years or three years of even five years, you’ll wish you’d never heard of stocks. But the 20th century [and so far the 21st century] has been full of bear markets, not to mention recessions, and in spite of that the results are indisputable: sooner or later, a portfolio of stocks or stock mutual funds will turn out to be a lot more valuable than a portfolio of bonds or CDs [Certificates of Deposit] or money-market funds.
Growing dividends are rewarding
“The reason that stocks do better than bonds is not hard to fathom. As companies grow larger and more profitable, their stockholders share in the increased profits. The dividends are raised. The dividend is such an important factor in the success of many stocks that you could hardly go wrong by making an entire portfolio of companies that have raised their dividends for 10 or 20 years in a row.
“Whereas companies routinely reward their shareholders with high dividends, no company in the history of finance, going back as far as the Medicis, has rewarded its bondholders by raising the interest rate on a bond. Bondholders aren’t invited to annual meetings to see the slide shows, eat hors d’oeuvres, and get their questions answered, and they don’t get bonuses when the issuers of the bonds have a good year. The most a bondholder can expect is to get his or her principal back, after its value has been shrunk by inflation.
“Today, a healthy 62-year-old is looking at a life expectancy of 82 [higher in Canada]: 20 more years of spending, 20 more years of inflation to erode the buying power of his or her money. Senior citizens who assumed they could retire happily on bonds and CDs are finding out otherwise. They need to put some growth back into the portfolio to maintain their standard of living. With interest rates low, even people with huge portfolios are having trouble living off the interest.”
Dividends tend to support the stock price
Mr. Lynch also made two positive observations about dividends in his book One Up on Wall Street. “One strong argument in favor of companies that pay dividends is that companies that don’t pay dividends have a sorry history of blowing the money on a string of stupid diworseifications.” [Past misadventures by Key stock BCE Inc. come to mind.]
“Another argument in favor of dividend-paying stocks is that the presence of the dividend can keep the stock price from falling as far as it would if there were no dividend.”
Cover your cash needs
At the same time, we feel it’s important for retirees to cover their cash needs for at least the next five years.
Mr. Lynch may not care much for bonds noting that stocks with growing dividends are much more rewarding. We agree. But in retirement, it’s important to cover your cash needs for at least five years into the future. Fixed-income investments ensure that you’ll have the money when you need it—regardless of what the stock market does.
The dividends of high-quality companies are fairly dependable. But stock prices are volatile, of course. It would be a shame to have to sell stocks in a poor market just to raise cash.
Many retirees turn their RRSPs (Registered Retirement Savings Plans) into RRIFs (Registered Retirement Income Funds). Retirees are required to make withdrawals from their RRIFs. It’s a good idea to cover these withdrawals with fixed-income money.
The Investment Reporter, MPL Communications Inc.
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The Investment Reporter •11/3/16 •