While those with mortgages will be cheering if the Reserve Bank cuts interest rates on Tuesday, for savers and those living off their savings, it's another matter.
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Five years ago, they could earn as much as 8 per cent a year on a five-year term deposit. Even better, the first $1 million held in deposits per person per institution was guaranteed by the federal government. The guarantee was brought in during the worst of the global financial crisis to shore up investors' confidence that their deposits would be safe.
Although the guarantee still exits, albeit at a lower $250,000, term deposit, interest rates are now nearing 3 per cent. If the cash rate, already at a 50-year low of 2.5 per cent, is cut further, term deposit rates will barely keep pace with inflation.
About 4 per cent can be earned with online saving accounts, but that includes a bonus rate that is usually for a limited time only, before reverting to a base rate of less than 3 per cent.
At the same time, retirees want yield, so that they can preserve their capital for as long as possible. Most retirees will have an allocated pension – an income stream paid to the retiree by the fund with tax advantages – in addition to the age pension or the part-age pension.
With an allocated pension, whether through a superannuation fund or a self-managed super fund in the pension phase, there is a minimum percentage that must be withdrawn from the pension each year. The percentage increases with age. With yields so low, however, more pensioners are going to be selling more of their investments to produce income to live off and to meet the minimum drawdown.
However, financial planners point out that while cash investments, such as term deposits, are not paying much, shares in the big banks and Telstra can still be bought on yields, after franking credits, of between 6 and 8 per cent.
While share prices tumbled during the financial crisis, the dividends paid by the big banks dropped by about 20 per cent, but that was only for a year or so, and their dividends have grown ever since.
"Retirees are often worried about the volatility of the share market as the reason for not investing in shares," says Jonathan Philpot, partner and financial planner at HLB Mann Judd in Sydney.
"However, if has been the volatility of income from term deposits that has really hurt retirees over the past five years, with a fall of more than 50 per cent," he says.
Telstra and big bank share prices have risen strongly in the past couple of years, in part because of investors chasing yield as interest rates have come down.
"You have to be careful about buying into an overpriced sector, and maybe the banks are starting to be fully valued," Philpot says. "You cannot put all your eggs in one basket. You have to have a really well diversified portfolio."
Phillip Gillard, principal and financial planner at Shadforth Financial Group, says focusing too much on income-producing investments runs the risk of not keeping up with inflation.
A portfolio needs some exposure to investments that produce capital gains, and the only assets that have a history of doing that are shares and property, he says.
Allocated pensions provided by super funds have preset investment mixes designed to produce a level of income and capital growth. They range from conservative, with most of the money invested in defensive, income-producing investments, to portfolios with a higher portion of growth assets, such as shares.
More super funds allow retirees to invest in individual shares and term deposits through their allocated pensions, allowing them to better tailor their portfolios to their needs. Retirees should seek professional financial advice on the best fit for their individual circumstances.
