Why smart investors keep cash on hand and don't chase the highest yield

For much of the past decade, income investors faced a difficult reality. Interest rates were near zero, bond yields were uninspiring, and many retirees felt forced into riskier assets to generate the cash flow they needed.

Today, the landscape looks very different.

Cash accounts can offer more than 5%, bonds are once again delivering meaningful yields, and advisers are finding new ways to balance income generation with capital preservation.

But despite the improved opportunity set, the challenge remains the same: generating reliable cash flow without sacrificing long-term portfolio health.

According to Rebecca Hurford, Senior Financial Adviser at Infocus Australia, and Dwayne Fernandes, Senior Financial Adviser and Partner at Principal Edge, investors approaching retirement are increasingly focused on one key question: how to turn accumulated wealth into a sustainable income stream?

The psychological challenge of retirement

For Hurford, one of the biggest hurdles isn't investment-related at all.

Many investors spend decades accumulating wealth before suddenly finding themselves in a position where they need to draw from it.

"Being able to transition from receiving a regular wage to generating an income stream from their own wealth can be a challenging psychological barrier for many," Hurford says.

She says clients are also increasingly concerned about regulatory changes, rising living costs and the possibility of outliving their savings.

"The fear of outliving the wealth they've accumulated" has become a major theme, particularly amid ongoing geopolitical uncertainty and market volatility.

Fernandes is hearing similar concerns.

"In a time of heightened volatility and following on from several years of higher inflation, the passive income generated by the portfolio has become a more important conversation with retiree clients," he says.

It’s counterintuitive, but don't chase yield

While income becomes increasingly important in retirement, both advisers warn against making yield the sole objective.

Fernandes says one of the biggest mistakes investors make is focusing exclusively on the income number attached to an investment.

"Total return matters and we encourage all clients to evaluate both yield and the capital growth, or loss potential," he says.

"There are many investment options, offering attractive yields, that are generally unsuitable for most retail investors."

Hurford makes a similar point.

She argues that retirement investing requires a shift in mindset away from wealth accumulation and towards capital preservation and sustainable cash flow.

"We're not so focused on growing our wealth, but rather preserving the capital we've accumulated and generating a strong, reliable income," she says.

That often leads retirees to reassess assets that served them well during their accumulation years.

"Many have invested in direct property to grow their long-term wealth… but then choose to sell the property in retirement, as the net yield may only be as little as 2-3% per annum."

Diversification remains the cornerstone

Despite the renewed appeal of income assets, neither adviser believes investors should become overly concentrated in traditional yield sectors.

"Diversification is key, not only in controlling our risk metrics, but also in sourcing a variety of assets which offer yield and growth opportunities," Hurford says.

Fernandes agrees, arguing that income should come from multiple sources rather than a single asset class.

"Diversification of income is also important," he says.

"Having a mix of exposure to duration, credit, equities and hard assets helps to reduce the idiosyncratic risk that you can sometimes find in concentrated portfolios.”

His goal is to build what he describes as an "all-weather" income portfolio capable of delivering outcomes across different market environments.

Bonds are finally useful again

One of the biggest shifts in income investing has been the revival of fixed income.

After suffering through the bond market sell-off of 2022, many investors questioned whether bonds still deserved a place in portfolios. Today, yields above 5% have changed the conversation.

Hurford believes bonds continue to play an important role within diversified portfolios.

"Bonds serve a place as part of the defensive portion of a diversified portfolio, with typically a reasonably stable yield and the potential for some capital growth," she says.

Fernandes agrees bonds are more attractive than they were during the ultra-low-rate era, although he remains selective.

"It is certainly more attractive than it was in the 2010s but risks remain," he says, pointing out that increases in interest rates can hurt returns from long-dated securities.

His preference is for shorter-duration exposures and higher-quality credit, and also highlights short-dated floating-rate securities as an attractive opportunity given current market conditions.

Infrastructure and international diversification

When it comes to opportunities today, Fernandes sees value in infrastructure.

"Infrastructure looks reasonably attractive on a total return basis and provides some hedging against further inflationary pressure," he says.

He also notes that term deposits and high-interest savings accounts yielding between 4.5% and 5.5% are attractive options for more conservative investors.

Hurford, meanwhile, is increasingly focused on global diversification.

"We're presently leaning into a slightly overweight position to international shares, where broader investment opportunities are available in the current market environment," she says.

She believes many Australians remain too concentrated in domestic assets.

"Whilst we in Australia feel our country is the centre of the universe, the fact remains that our market only equates to around 2% of global markets," she says.

"There is risk of 'home bias' when it comes to investing."

That doesn't mean abandoning Australian shares entirely. Hurford continues to see value in dividend-producing Australian companies and the tax benefits of franking credits, but believes they should form part of a broader global portfolio.

Tax matters - but shouldn't drive decisions

The proposed Federal Budget changes have prompted many investors to reconsider portfolio structures and tax outcomes.

Yet neither adviser believes tax considerations alone should dictate investment decisions.

Hurford says the superannuation system remains highly attractive for retirees because of its concessional tax treatment and tax-free pension phase.

However, she warns investors against chasing lower-growth assets solely for tax reasons.

"The question needs to be asked: are we better off at the end of the day?" she says.

Fernandes is taking a similarly measured approach.

"We are not rushing to make any changes," he says.

"There are usually costs to any repositioning so we would want to be satisfied that any changes are sufficiently beneficial for clients."

Protecting capital from market shocks

While investors can build the seemingly picture-perfect portfolio, market crashes - especially during the decumulation stage - can arrive at the worst possible time. Drawing income from a portfolio while asset prices are falling can permanently impair capital and make it harder for wealth to recover.

The experiences of the Global Financial Crisis, COVID, the 2022 bond market sell-off and even recent geopolitical shocks serve as reminders that market volatility never truly disappears. That's why Fernandes believes cash still has an important role to play within retirement portfolios.

"We position retiree portfolios with at least two to three years of cash flow in cash or cash-like securities, to avoid the need to sell down on growth assets at sub-optimal times," Fernandes says.

The strategy creates a buffer between short-term spending needs and longer-term growth assets. If markets experience a correction, retirees can continue drawing on their cash reserves rather than selling investments at depressed prices.

"This approach, coupled with a disciplined rebalancing, helps to smooth out the volatility of income returns," he says.

Over time, the cash bucket is replenished through portfolio income and regular portfolio maintenance.

"The message we try to convey is 'you have secured the next few years cash flow and that bucket will be continually replenished through dividends, distributions and regular rebalancing'," Fernandes says.

For retirees, the objective isn't simply to maximise returns. It's to ensure that a market downturn doesn't force them to sell quality assets at precisely the wrong time.

Capital and cash flow built to endure

If there's one message both advisers agree on, it's that successful income investing isn't about finding the highest yield.

It's about building resilient portfolios that can fund retirement through multiple market cycles.

That means maintaining diversification, focusing on total returns rather than headline income, using fixed income more strategically than in the past, and ensuring portfolios are designed around long-term objectives rather than short-term tax outcomes.

As Fernandes puts it, a quality income portfolio should be an "all-weather" one — capable of delivering the cash flow retirees need without compromising their financial future.