Investors with an eye toward income generation — especially as they look toward retirement — may want to consider fine-tuning their “balanced” portfolios, according to recent research from BlackRock. The S & P 500 has surged 17% in 2024, rising on exuberance around tech and the artificial intelligence trade. Tech darling Nvidia , up more than 150% this year, accounts for more than 6% of the broad market index’s weighting. .SPX YTD mountain S & P 500 in 2024 As exciting as those gains may be, investors nearing retirement are courting plenty of risk by allowing Big Tech’s run drive their portfolios. “I think people are losing sight of the fact that you can generate really good returns from taking an income-oriented approach,” said Justin Christofel, co-head of income investing, multi-asset strategies and solutions at BlackRock. “We talk about saving for retirement, for college and any number of things — but there isn’t enough time spent on what you should do when you are retired and no longer earning a paycheck,” he added. “When you retire, you’re facing new risks you didn’t face when you were accumulating.” Investors can try to manage some of that risk in the march into retirement by legging into income-generating assets. That could mean migrating from a balanced portfolio that’s allocated 60% in stocks and 40% bonds to a model that juices income with allocations toward dividend-paying stocks, higher yielding bonds and other fixed income assets, BlackRock found. A 40/60 approach The asset manager analyzed different combinations of an income-focused portfolio — that combines the MSCI World High Dividend Yield Index, Bloomberg High Yield Bond index and the Bloomberg U.S. Aggregate Bond Index — over a 25-year period. BlackRock then compared the returns on this portfolio — which included a 40% allocation to dividend-paying stocks and 60% allocation toward fixed income — to a traditional 60/40 portfolio. “The diversified blended income portfolios … have generally delivered better returns for similar levels of risk across the spectrum,” the study found. “In other words, the income portfolio efficient frontier is higher than the traditional portfolio efficient frontier over the 25-year period.” The efficient frontier is a concept in modern portfolio theory. It depicts a set of portfolios that are expected to offer the highest return for a given level of risk. It also shows that at some point, ramping up on portfolio risk will result in diminishing returns. That notion of diminishing returns is especially important to investors approaching retirement and who may be inclined to remain heavily exposed to large-cap stocks. These individuals are grappling with sequence of return risk. That is, the likelihood that they face a sharp market decline as they retire and are forced to draw down on a portfolio that is declining in value. “Trying to maximize total return isn’t necessarily the optimal strategy,” said Christofel. “If you experience a drawdown, you’re selling units to maintain the cash flow stream that you live off of.” By taking an income-oriented approach, interest from bonds and dividend payments can generate enough cash flow to keep retirees and near-retirees from selling into a falling market, he added. It can also help deter them from selling out of fear. “Markets trend higher over time,” Christofel said. “And you are no worse off a year or two later with that income approach because presumably markets have recovered.” Investors aiming for an income-centric approach should work with their financial advisor to retool their portfolios, so they can dollar-cost average into these assets over time and ensure that their allocation reflects their risk profile and goals. Finding income-generating assets As the Federal Reserve is widely expected to begin cutting interest rates this September, dividend-paying stocks are “an attractive way to play for upside,” Christofel’s team found. Investors wanting to take a diversified approach may want to try a mutual fund or an exchange-traded fund. Vanguard’s Dividend Appreciation ETF (VIG) has a total return of 15% in 2024 and an expense ratio of 0.06%. There is also the iShares Core Dividend ETF (DIVB) , with a total return of about 17% in 2024 and an expense ratio of 0.05%. Covered call strategies are another way to bolster portfolio income, the team found. Call options give an investor the right to buy a stock at a given strike price before an expiration date. A covered call strategy involves selling another investor a call option against an underlying security that you already own — a move that can help generate income from premiums. The catch here is that you must be ready to part with the stock and miss out on additional upside if it skyrockets in value. Christofel’s team also likes floating rate bank loans and high-quality AAA-rated collateralized loan obligations. “Compared to fixed-rate securities of a similar credit quality like high yield bonds, bank loans today offer wider spreads and higher yields,” he wrote. Though floating rate instruments could see their yields come down as the Fed cuts rates, these offerings may still offer attractive returns compared to other fixed income classes. Finally, Christofel’s team likes high-quality bonds to provide ballast in a portfolio, including coupons in cash and short-term investment grade bonds.
