Talk Your Book: Beyond Bonds in Retirement

Matt Kaufman · Calamos Investments

Rising rates hurt bonds and retirees, while options-based strategies tie income to risk-free rates instead.

Matt argues bonds are inversely impacted by rising rates, which is very detrimental for retirees who no longer earn a paycheck. Options-based strategies do not work that way, because the risk-free rate flows through to their income or cap rate, so higher rates help them. He says investors are moving 20-40% of portfolios into alternatives, largely options-based, because options let them set the volatility profile and risk tolerance that bonds no longer deliver. He also calls a 500 basis point rate rise a once-in-a-hundred event and does not expect rates to reach the 10-13% levels that would restart a bond bull market.

“We all know that bonds are inversely impacted in a rising rate environment that is very detrimental for a retiree who's trying to provide for themselves when they no longer work. Options are not that way.”at 19:24

Ben Carlson · Ritholtz Wealth Management

Bond risk is overblown, since a jump from zero rates to 5% is a historical outlier.

Ben argues that the risk of bonds is sometimes overstated. He says it is hard to think of many historical cases where rates went from zero to 5% so quickly, so he sees that scenario as an outlier. He still thinks investors should diversify the fixed income portion of their portfolios beyond one asset class. He also cautions that options-based products are not a simple fixed income replacement, because they carry different risks.

“And I think sometimes that risk is a little overblown. Like, [I] don't know how many times in history we're going to have a situation where rates go to zero and then 5% so quickly.”at 20:20

Matt Kaufman · Calamos Investments

High cap rates on options-based income products usually mean low downside buffers; check the trade-off.

Matt says options-based income products show a clear correlation between the upside or income they offer and the risk investors take on. A high cap rate usually means a low buffer or protection level. He says investors should check the cap rate and protection level, and the income relative to the risk, before buying. He also warns that daily or weekly income streams are often quoted annualized and are unlikely to be achieved in practice.

“There's a pretty clear correlation between the amount of upside you get or the amount of income you get, and the amount of risk that you're taking on... So if you see a product that has a really high cap rate, the odds are your buffer, your protection level is probably low.”at 22:01

Matt Kaufman · Calamos Investments

Inflation is a real retirement risk, but equities tend to rise with inflation over time.

Matt says inflation is a real risk for retirees that was largely ignored in the roughly 20 years before COVID. Retirement models often assume low, steady inflation, and a sudden inflation shock can severely damage a portfolio that is being withdrawn from. He argues that inflation works through equity markets positively over time, though the path is choppy and takes time. He says principal-protected ETFs can help hedge this risk because their payoffs rise as interest rates rise.

“from my perspective, I think inflation tends to work its way through the equity markets positively. Sometimes it's choppy, but, and it takes time, but you tend to end up in a higher place.”at 28:04