Balanced funds are very popular. They are mutual ...

Why balanced funds aren’t appropriate for retirees

Balanced funds are very popular. They are mutual funds usually made up of shares and cash components. They are popular because they are viewed as being safe – and they are also the default option for many.


The structure of these funds varies depending on many factors, but by and large, a balanced fund holds 70% of the money as investable, growth assets (such as the biggest companies of Australia and the world and other things such as infrastructure). That’s the first pool of money. The second pool of money, the 30%, is things like cash and fixed interest. You’ll often hear the 70% being referred to as the growth portion and the 30% as the defensive portion.


So these two pools of money are in the same fund. But we actually think the logic of the balanced fund is flawed – not just for people who are accumulating wealth, but also for those in retirement.


Why is that?


For starters, the 30% pool of money simply isn’t working for you. True, it won’t fluctuate during times of volatility. That means it won’t go backwards – but it won’t go forwards, either. At the time of writing, term deposits are returning under 1%. And bonds are somewhere around 1% to 1.5% – not enough to grow your wealth.


If a retiree had 2 million dollars, $1.4 million of that would be growing (and fluctuating). But $600,000 is not doing much at all. During volatility, if there is a drop in the market of 50%, that $1.4 million will fall to $700,000, while the other 30% doesn’t change. But here’s the problem with a balanced fund: if you take $100,000 in income from your fund for that year, the fund takes the money evenly from across the split (70/30). What that means is that you’re essentially selling 50% of companies when everything is down.


The issue is that retirees don’t realise that the very thing they fear is happening. Selling shares when there’s a downturn is not good. And the withdrawal is taking the majority of your money by selling the growth assets, which are down 50%.


Balanced funds give the illusion of smoother returns. But they are flawed for retirees, who may not be able to afford to have 30% of their assets in cash.


A better scenario would be to withdraw your income out of the ‘cash pool’ until prices recover. We know these market drops are going to happen – it’s not if, it’s when.


For the client with $2 million, that’s six years of income available to them from their cash pool. And when you go back to thinking about what the ‘job’ of that money is, it’s to deal with volatility – which is exactly what it would be doing if drawn from. Withdraw from the ‘cash pool’ while you wait for the market to even itself out again.