Pension
Income
Investor

Coronavirus: what should investors do?

Story published March 8 2020

Since we wrote this article the Covid-19 crisis has escalated hugely and the view set out below is therefore now out of date. We leave it online for archive purposes but direct readers to a new article, Coronavirus: the fund changes we must make to preserve our income. 

Anyone who has money invested in the stock market, including those who have adopted the approach outlined on this website, will be worried about the effects of the coronavirus crisis on their financial wellbeing. Here is our view of what is happening and what is the best course of action for investors.

When something unexpected and potentially highly damaging occurs, it is inevitable that stock markets will fall severely. The market as a whole is saying that a recession has suddenly become more likely and that, across the economy as a whole, more companies will struggle to increase or even maintain their profits.

This is a perfectly rational response to a new set of circumstances. But it doesn’t follow that every investor should follow suit and sell.

The key thing is that the investment strategy described on this website is designed to produce a reliable income over the long term – perhaps two decades or more. While the virus-induced falls in stock markets – about 15% for London’s FTSE 100 index – are alarming, it’s vital to remember that a 15% fall in the value of your assets does not mean that your income will fall by the same extent.

And, even if it takes time, perhaps years, we believe that your assets will recover their value if you avoid the urge to sell now.

Let’s look at the likely effects of this crisis on investors’ income in more detail. We will assume that they have invested in line with one of the portfolios included on this website and take our high-income portfolio as an example.

Half of this portfolio is invested in the stock market and half in other assets, split between bonds and property. The income from the latter two is much more secure than that from the stock market: issuers of bonds must pay the interest due unless they get into financial difficulty, and tenants of the properties held by the funds in our portfolio are likewise legally bound to pay the rents due.

Of course, in an extreme recession the issuers of bonds and the tenants of properties could go bust and affect the income produced by our portfolio, but we do not see the coronavirus causing damage on that scale.

In short, we see the income from half of the portfolio as safe.

The income from the other half, which is invested in the stock market, is more at risk. However, investors’ income will actually fall only if the companies held in our portfolio’s funds decide that they have to cut their dividends. And this is far from certain, even if the coronavirus crisis does affect their profits. More likely is that dividends will be held at previous levels rather than increased.

Even if the crisis worsens we doubt that any of our funds will have to cut their dividend severely: we would expect a figure of no more than a couple of per cent even if the economic damage is extreme.

Across the portfolio as a whole, if we assume that the income from our bond and property funds is maintained, the loss of income would be very small.

Anyone who invests with the aim of providing income throughout their retirement should expect at least one severe event such as the coronavirus, and probably more, over those decades. It is in the nature of stock markets to react to such crises swiftly and severely, but viewed in hindsight and with a longer perspective the falls tend to be short-lived.

In our view it is vital to remember this and to resist the temptation to sell, which only crystallises what was previously just a theoretical loss and makes the challenge of generating the income you need that much harder.

Update March 19 2020

Markets have fallen a lot further since this article was written earlier this month. However, the principle remains that we don’t think anyone should sell any of their holdings out of fear that yet further falls are possible.

Instead, we are certain that income will continue to flow from the funds in our portfolios, although perhaps at a reduced level once companies start to cut dividends in response to the virus impact. We expect such falls in income to be temporary and expect it to start to recover next year.

Again, our conclusion is that nothing should be sold and that any income shortfall should be made up for by use of the cash buffer, which was put in place for precisely that reason.

Readers who have followed our high-income portfolio could go further and suspend the 1%-per-year partial sales of funds used to top up their natural income from dividends etc. This would be a sensible course of action, because at current low share prices these sales do not yield as much in cash terms as before and use of the cash buffer would therefore be preferable.

However, our choice of 1% per year as the withdrawal rate from sales was deliberately conservative so we don’t think the adverse impact would be large if readers continued to make these sales.