7 traits that allow income investors to ignore share prices

Marcus Padley

Marcus Today

I was playing golf over Easter with a few retirees. "I love the smell of retirees in the morning...it smells like...Victory"

Not their fault - when your handicap is set on the often rock hard and slick sandbelt courses of Melbourne, clubs like Royal Canberra, Pambula Merimbula and Eden with their fluffier fairways, soft and slower greens where the ball stops dead, and the putts take an hour to roll in, are little more than amphitheatres for the annihilation of locals by visiting players. Off my handicap, (16) the destruction of their Saturday morning optimism was a foregone conclusion.

Post annihilation our bar chatter turned rapidly, as it often does in this demographic, from typical politics to predictable franking credit refund indignation. The real frustration as many of you can tell me as well (no emails) comes from a few quarters - knowing that the tax has already been paid (its ours!) - the frustration at the goalposts moving in the short term for political gain rather than necessary long term tax reform (we're back in surplus why do you need more!) - and the understanding that the very wealthy, those with significantly more than $1.6m in Super, since the $1.6 million cap on Super was introduced, are paying tax again and can utilise the franking credits while the ‘battlers’ who have done the government a favour by self-funding their retirements can't, its the battlers that are hit hardest and they feel caught in the crossfire of someone else's war. If happiness is expectations met, then they are unhappy, because they have had their income expectations lowered.

And a couple of other points came up:

  • Geoff Wilson may have made a mistake - by provoking in public, ridiculing even, Chris Bowen for his lack of understanding, he has almost certainly hardened Chris Bowen’s resolve making a back down on the policy a matter of pride rather than logic.
  • The best hope for retirees is that the polls become more marginal and Labor abandons/delays/softens/amends the policy-making 600,000 SMSF voters think again.

But of more interest was the reiteration by my retiree golfing buddies that all they are interested in is the income from shares, not the share prices themselves. “The kids will get those, I don’t care what the share price is when I’m dead”.

This is something I wrote about last year, many investors simply don’t care about the share price. Let me say that again, in Australia, there is a very large chunk of retiree investors that simply don’t care about the capital value of the shares they hold because they are entirely focused on living off the income and the franking.

Here are the seven traits of the income investor that allows them to ignore share prices:

  1. Income investors are generally not interested in the stock market, beyond milking it for income. It might provide some intellectual stimulation once a weekend when they read the newspaper or chat about it at dinner, but they do not wish to be watching the stock market, making decisions about the stock market, worrying about stock-market. There is tremendous value in avoiding stress - these investors have worked that out.
  2. Income investors are genuine investors, not traders. Income investors are long term, not short term. They genuinely “set and forget” and are disciples of the “it’ll be all right in the end” mantra which, despite relentless criticism (from me) for its head in the sand approach, can work. There is something to be said for identifying long-term quality stocks (there are many great examples in hindsight) and sticking with them through thick and thin. It is a lot less stress. I think it could be done with a little bit more brains sometimes – you have to monitor things not ‘forget’ and prune sometimes – so my humble advice for these investors is to learn to sell occasionally (Telstra?) which is a process that does require some level of vigilance. Your results can be improved significantly, not by stock picking, but by stock culling. It is a bit like our Top 50 portfolio, you can outperform because of the stocks you don’t hold rather than the stocks you do. So be prepared to cull sometimes.
  3. Income investors are rich. To turn a blind eye to the stock market and the share prices of the stocks they hold, income investors have to be rich. They have to have enough money invested in stocks like the banks or hybrids such that they can live off the income alone and not care about the share price. If you don’t need the capital to fund your lifestyle, you don’t have to worry about share prices, just as long as the dividends are not cut and continue to be paid. The trick is to buy stocks that will keep paying out (mature, generally large reliable stocks) in the long term. If you can find those, who cares what the share price is today.
  4. Income investors assume that the banks are bullet-proof in the long-term. It’s not a bad assumption. While the Australian banks retain an oligopoly, they are. Until they get, disrupted retirees can stay on the golf course and ignore the market. (There is no sign of disruption at the moment but we have to keep the big American tech stocks in our peripheral vision just in case they provide a banking service alternative, operated off a mobile device presumably, that sucks the crusty Australian population away from the big banks. The tools to disrupt the banks are there (mobile devices), but the product isn’t). Until the disruption arrives, if it ever does, Australian retiree income investors are betting that the big banks will remain highly profitable for their lifetime and on that basis they need not worry about the share prices. Have faith in that and the Royal Commission, tighter lending standards and a cooling property market, are just a blip in the long-term share price trajectory and not something you need to react to. It could even be welcomed as creating a long-term buying opportunity.
  5. Income investors are generally holding stocks in super in a tax-free environment. They have no capital gains tax, but they also get no benefit of capital losses. So there is no pressure/benefit of sell loss-making stocks to offset capital gains. They get the full benefit of any capital gain and any income and franking (unless Bill and Chris get their way).
  6. Income Investors focus on franking credits. Retiree investors living off stock-market income are very interested in the cash refund of franking credits. If Bill Shorten does change the rules to remove the cash refund of franking credits then things do change. Retiree investors will be looking to replace that income somehow. My humble advice would be not to bother taking more risk (in low yield stocks) to replace franking income, but to accept the loss of income and carry on as you are with less income. There is no easy way to replace franking if it goes, not without more volatility which means paying more attention which you don’t want to do and suffering more stress in the process. If happiness is expectations met, then the way to be happy, after Labor screws it all up for you, is to lower your income expectations. (One option you might think about is hybrids. If you lose the franking on stocks then the yields on volatile stocks come closer to the approximately 6% available in some hybrids – it makes hybrids more attractive on a risk/reward basis than sitting in more volatile shares. We have wealthy clients holding a lot of hybrids simply on this risk/reward consideration – of course, some hybrid yields include franking as well so get advice).
  7. Some income investors write call options - The very wealthy income investors improve their yield by selling out of the money call options over their shareholdings. Rolling written call options every few months takes advantage of time decay. Most options users are a victim of time decay. This small edge has turned into an industry of charlatans promising rivers of effortless gold if you write calls over naked positions. Good luck with that. This is not for poor people, it is for people holding big chunks of big option stocks, and it only incrementally improves the income from the stock, it doesn't revolutionise it.

It's your choice

It is your choice whether to become an Income Investor and stop worrying about share prices…but it is a privilege of the wealthy and is not for people behind the eight ball who are trying to grow their capital and cannot afford to lose capital. It is for people who are financially comfortable already, have enough capital to generate an income that meets their annual requirements, and want to have a life.

In order to get to that stage there are two ways: (1) get richer somehow (earn money, build a business, downsize), or (2) live off less. Lower your income expectations, and you too can become an investor who is (1) happy again (by coming to terms with less) and (2) joins the hoards of wealthy Australian retirees who simply don’t care about share prices.



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Marcus Padley
Director
Marcus Today

Marcus Padley founded Marcus Today in 1998 and leads the team of analysts and market commentators that publishes a daily stock market newsletter, presents four podcasts and runs an $80m Australian equity fund. He is passionate about educating and...

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