Planning for withdrawals while preparing for the unpredictable

Whether you are new to investing or have a portfolio already – don’t miss out on one of the best times to protect and grow your wealth...

By Kevin Haakensen |

 Last updated 27/05/2020

In 2007, just before the last global financial crisis, finance professor, writer and former stock trader Nassim Nicholas Taleb popularized the notion of “black swans”, extremely rare events with catastrophic consequences that are virtually impossible to predict and that don’t normally find their way into analysts’ projections.

The COVID-19 pandemic is, of course, a textbook example of a black swan and we’ll be living through its effects for the foreseeable future.

But while black swans are unpredictable, developing a well-constructed, dynamic financial portfolio with checks, balances and contingencies that can mitigate crises like this is really where an advisor is worth his or her weight in gold. That’s particularly true if you’re a retiree or about to retire and planning to live off your hard-earned investments – or even if you’re simply saving for a down-payment on a cottage, a renovation or a big-ticket item and expect to make withdrawals from your investment savings in the short term.

Here are a few lines of attack you and your advisor should consider if you need to draw money in this difficult market period:

Wedges and more wedges

In a nutshell, a cash wedge is a strategy for keeping a portion of your portfolio in cash and high interest savings – to provide comfort during high volatility. Your wedge depends on your spending habits and the level of wealth and assets in your portfolio. (A good rule of thumb is to have at least two years of safe withdrawal sources as a wedge.)

But, while cash is an important component of any portfolio – it can be beneficial to have some “dry powder” during certain phases of the market cycle – in a market upturn or in the low-interest environment we’ve had for a decade holding large cash reserves can create a drag on your portfolio.

That’s why we’re fans of an alternative to the standard wedge strategy: the not-very-creatively-named “alternative wedge”, which involves holding assets other than traditional bonds and equities, so-called alternative assets.

All about alternatives

The basic rationale for alternative investments is as a hedge to short stocks – where going short means earning positive returns as a stock value declines or markets are retreating. For instance, we own four strategies in this space throughout the portfolios we manage, the largest of which held up almost 5% on the stock market lows reached on March 23, compared to major markets, which were down around 35% on that date.

Now, you may be thinking: but how do alternatives perform when the market heads back up?

This really hits home why, when adding defense into a portfolio, it’s important to own a variety of these assets as opposed to no- or low-return cash. While it’s true alternatives won’t capture 100% of a market’s upside, they can net out 60%+ and, with the strong capital protection in large market drawdowns and potential for decent returns when markets are heading north, that risk/reward tradeoff through a market cycle is very favourable.

Back to wedges and withdrawals, this all underscores why an alternative wedge can provide a healthy portion of “spendable” money when markets are acting erratically – like now. Hedging and alternative investments reduce the harm to a portfolio that can result when an investor needs to withdraw cash and is forced to sell good quality stocks that are down, say, 35%.

One more alternative

Private debt is another alternative worth considering. This specialized investment, which includes funds that may supply loans against business equity, property and other assets, is a great complement to traditional fixed-income and offers the potential for high yields.

It’s one area, however, where there cannot be too much due diligence – for some so-called diamonds in the rough, we find many don’t have proper risk controls in place. Nevertheless, up to 20% of our portfolios include private debt. In terms of cash distributions, it’s worth noting that many private debt assets can only be sold monthly and take up to 90 days to receive the cash, so good planning is crucial.

Sustainable cash flows

Speaking of withdrawing cash, one of the other best ways to reduce pressure on portfolio draws in times like this is to make sure your portfolio is set up with sustainable cash flows. If the majority of a monthly payment can be met with cash generation from your holdings it means you’ll need to sell fewer assets at reduced values.

With dividend-paying equities, exchange traded funds (ETFs) and even private debt, as long as you (or your advisor) is doing good homework, buying quality companies with negligible bankruptcy risk and sustainable dividends is the key in this space. I can’t stress enough the importance of not chasing high-dividend payers – these companies too often get into financial trouble and slash or eliminate their dividends at exactly the time you need it as an investor.

Finally, structured notes – which consist of underlying assets and benchmarks like market indices, equities, fixed-income products and foreign exchange rates – are another vehicle that offers potentially attractive distributions even if your principal is tied up for several years.

While I’ve mentioned a lot of ways you can continue withdrawing cash during volatile times like the one we’re living through, leaving cash available is also a good idea. It can provide your financial advisor or portfolio manager with the flexibility to make additional investments in good quality stocks other investors had to sell when they threw the baby out with the bathwater during recent market dives. These quality stocks are often good long-term buys with potentially outsized returns.

What we offer you…

We offer a free consultation and second opinion on your portfolio. We provide a complete comprehensive and custom-tailored financial plan at no charge, with no obligations.

Our firm is built around a holistic approach with professionals having input on full financial planning, taxation, portfolio management and estate matters. We have refined a proprietary process that puts all the pieces of the financial puzzle together, helping families live and retire well.

Our fee-based discretionary portfolio management model frees you from the day-to-day administrative process of wealth management so that you may focus on what matters most to you. We pride ourselves on full visibility of fees, equal treatment of all clients, as well as objective and unbiased advice.

Our expertise in including alternative asset structures within our portfolios helps to reduce market volatility, allowing our clients to sleep well at night.

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