Plato's Don Hamson: Review your income strategy

At its meeting today, the Reserve Bank cut the cash rate by 25 basis points to 1.00 per cent. This followed a similar cut in June. In explaining the board's decision, RBA Governor Philip Lowe said the move would "support employment growth and provide greater confidence that inflation will be consistent with the medium-term target".

"Today's decision to lower the cash rate will help make further inroads into the spare capacity in the economy. It will assist with faster progress in reducing unemployment and achieve more assured progress towards the inflation target," Lowe said.

"The Board will continue to monitor developments in the labour market closely and adjust monetary policy if needed to support sustainable growth in the economy and the achievement of the inflation target over time."

While the outlook for the global economy remains "reasonable," Lowe said the uncertainty generated by the recent trade and technology disputes is affecting investment and meant that risks to the global economy were "tilted to the downside".

"The persistent downside risks to the global economy combined with subdued inflation have led to expectations of easing of monetary policy by the major central banks. Long-term government bond yields have declined further and are at record lows in a number of countries, including Australia," Lowe said in the RBA's monetary policy statement.

"Bank funding costs in Australia have also declined, with money-market spreads having fully reversed the increases that took place last year. Borrowing rates for both businesses and households are at historically low levels. The Australian dollar is at the low end of its narrow range of recent times."

Lowe also dubbed the outlook for the Australian economy as "reasonable," expecting growth to remain around trend. And while the main domestic uncertainty continues to be the outlook for consumption, he expected a pick-up in growth in household disposable income to support spending.

While inflation pressures remain subdued across much of the economy, Lowe still expected inflation to pick up, and for it to receive a boost in the June quarter as a result of higher petrol prices.

"The central scenario remains for underlying inflation to be around 2 per cent in 2020 and a little higher after that," he said.

Aussie dividends: never been stronger

Lowe said conditions in most housing markets remain soft, although there were some tentative signs that prices are now stabilising in Sydney and Melbourne. Growth in housing credit has also stabilised recently, he said.

"Demand for credit by investors continues to be subdued and credit conditions, especially for small and medium-sized businesses, remain tight. Mortgage rates are at record lows and there is strong competition for borrowers of high credit quality," Lowe said.

While today's rate cut will no doubt be welcomed with open arms by homeowners and those Australians wishing to buy a property, Dr Don Hamson, Managing Director of Plato Investment Management, has suggested Australia’s 3.8 million retirees should review their income-generating investment strategy in light of the RBA’s move.

He pointed out that Australian overnight cash rates and 10-year government bond yields were already trading at historical all-time lows before the RBA’s move, with 10-year bond yields recently dipping below 1.4%.

Hamson noted that some market economists were predicting that the Reserve Bank of Australia may cut one to two more times over the next year, bringing rates below 1%.

“Returns on cash, term deposits and products linked to bank bill rates will likely continue to fall under that scenario. Many income-related products, like income securities or bank hybrids are priced at a margin to bank bill rates, and we have already seen 90-day bank bill rates fall almost 1% year, which is already crimping their income," he said.

“Retirees living off cash-linked income will struggle to make ends meet. So, it is very timely for retirees to reconsider their income generating asset mix. Thankfully, given the somewhat surprising election result, retirees can continue to bank on receiving franking credits from Australian share investments.”

Hamson noted that at a time when interest rates are hitting all-time lows in Australia, dividends paid by Australian companies have never been stronger. He said the Plato Australian Shares Income Fund has distributed a record amount of dividends the financial year that has just ended, with gross distributions including franking credit after fees of more than 15%.

“Ironically, the ALP threat to franking has actually caused some companies to flush out excess franking credits prior to the end of last financial year, providing Australian income investors - including retirees - with a record level of dividends.”

It's not just about the Big Four & Telstra

However, not all investors and retirees have benefited from this dividend bonanza. Many, retirees in particular, need to reassess their income-generating investments to ensure they are invested in the best possible income-generating equities, not just the big four banks and Telstra (ASX:TLS), Hamson said.

“Dividend increases, for example, have been largely concentrated in the resources sector, with traditional income stocks like the big four banks and Telstra either maintaining or cutting dividends," he said.

“A cut in interest rates - while it won’t lead to an increase in dividend income - will also lead to increased investor demand for dividend-paying stocks, raising the capital value of some.”

Hamson said that retirement income offerings tended to be a one-size-fits-all approach. With over five million baby boomers moving into retirement, the need has never been greater for new and innovative retirement income solutions for Australia’s retirees.

“Active dividend income strategies should be a key part of the discussion about retirement income, given that dividend income can be four times that of term deposits.”

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Plato Investment Management is an Australian owned boutique equities fund manager specialising in maximising retirement income for pension phase investors and SMSFs. For further information click "contact us" below