Investing: How can retirees diversify out of FDs?

This article first appeared in Personal Wealth, The Edge Malaysia Weekly, on October 5, 2020 - October 11, 2020.
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Malaysians who rely on fixed deposits (FDs) to fund their retirement have been encouraged by financial planners to diversify into other investment instruments in view of interest rates that are expected to stay low. This does not mean investing only in conservative assets such as bond funds but also more aggressive asset classes such as equities to have a varied portfolio.

“Most of us who live in the city face a personal inflation rate of 6% to 7%, so your money has to grow by at least that amount to [maintain] your lifestyle standards,” says Ong Dan Lin, licensed financial planner with iFast Global Markets (iGM).

A quick scan of various websites shows that most local banks currently offer FD rates of below 2% a year for tenures up to 12 months. The rates are negotiable beyond 12 months for some banks, while some offer higher rates for senior citizens.

Meanwhile, having a well-diversified, moderate-risk portfolio could give investors annualised returns of between 6% and 8%, observes Felix Neoh, director of financial planning at Finwealth Management Sdn Bhd. “An aggressive diversified portfolio could return 10% to 12% a year over a mid- to long-term period,” he says.

To start building a diversified portfolio, retirees can put their money into three buckets — to address short-term, mid-term and long-term needs, say financial planners.

The short-term bucket is invested in liquid instruments that retirees can withdraw to fund their needs for the next two to three years. This should be put in safe assets where the capital is protected.

“It should cover two to three years of living expenses plus any large-ticket expenses … Bank deposits and FDs are often the default for low-risk investments. With the current interest rate environment, however, one needs to consider alternatives,” says Neoh.

The alternative could be in products such as certain Amanah Saham Nasional funds and fixed income securities, ranging from money market funds to bonds, he explains.

Meanwhile, Ian Wong, licensed financial planner and partner at IPP Financial Planning Group, believes FDs can play a role in this bucket as a store of liquidity. “Let’s say you want to buy a house in two years’ time. You can’t put your money in something risky, [so FD is a good alternative],” says Wong, adding that money market funds are also an option, but investors must understand how they work. “You have to evaluate what the money market fund does, how they pay out and what the withdrawal terms are.”

Photo by Haris Hassan/The Edge

The mid-term bucket will fund the needs of the retiree for the next seven to 10 years. According to Neoh, this bucket generates stable income and growth. Investments in this bucket could be in income-focused unit trusts or shares, properties, real estate investment trusts or REIT funds, he says.

Ong advises investors to look at balanced funds for this bucket. “Balanced funds can invest 60% of its assets in equities and the rest in bonds … alternatively,  you could put 30% of your money into more aggressive growth funds and the rest into dividend funds.” Balanced funds generally provide returns of between 5% and 6%, she adds.

The last bucket covers assets that are expected to be useful only 10 years down the road. Investments in this bucket could be riskier, given the longer time horizon. “Typical assets would include growth-focused stocks or funds, small and mid-cap companies, as well as alternative assets like precious metals and sector-specific assets such as energy and commodities,” says Neoh.

He adds that investors with a moderate-risk profile can invest between 10% and 20% of their investable assets in low-risk assets, given that they meet their cash reserve requirement of two to three years’ living expenses; a similar amount in high-risk assets; and the rest in moderate-risk assets.

“A more aggressive investor should meet the cash reserve requirements subject to at least 5% to 10% of investable assets, and thereafter adjust the allocation to high-risk assets with 20% to 30% of investable assets, and keep the balance in moderate-risk assets,” says Neoh. “A conservative investor can be guided towards an equal split between low-risk and moderate-risk assets.”

Wong, who uses a slightly different terminology, believes one should put 30% of one’s funds in the short-term and liquid bucket, which consists of FD or money market funds, and 30% into the future bucket, which is relatively safe and includes bond funds or good endowment plans.

“The yield of bond funds can be 5% to 6% before fees … But [moving] from FDs to bond funds can increase your risk, so you have to do more research on them and see how they perform against their benchmark and other peers, the fees charged and the kind of bonds that are in the portfolio,” says Wong.

Another 30% of funds should be put in the growth bucket with medium-risk funds, balanced funds and REITs. The last 10% can be put in any asset class that interests the retiree, he adds.

Markets are expected to stay volatile because of the Covid-19 pandemic and other factors. Financial planners advice retirees to be cautious as they build their portfolios and to seek professional advice where possible.

“It is at this time that active performance management is required even more,” says Neoh. For instance, retirees need to regularly rebalance or restructure their investments, and take profit or reinvest their profits at the right time.

Similarly, Ong says Malaysians must pay attention to their finances and cash flow at this time. “You need to plan carefully. You need a strategy on how you want to invest and when you need the funds. You have to really drill down [and understand] what the bucket of money is for. If you have all these in place, you will invest more successfully.”