Income investing is when one invests with the intention of generating recurring long-term income while preserving their capital. As a strategy, income investors tend to be on the lower-risk side of the investment spectrum.
Investors who covet this investing strategy accept lower rates of return in exchange for higher safety and stability. Income investing is commonly incorporated into the portfolios of middle-aged and older investors.
This is in contrast to young investors who are expected to work for decades before they retire. These investors often favor growth investing which is significantly riskier, but also gives them the potential for higher returns.
But whether you prefer growth or income investing, it’s typically not an either-or thing. Instead, it’s how much do I allocate to each.
The answer to that question comes down to several individual factors. Collectively, these items are known as your Investor Profile.
What type of investor are you? It’s a simple question, but it isn’t necessarily an easy answer. And since everyone is different, my answer will likely differ from yours.
To arrive at the answer, you’ll need to look at your investor profile.
An investor profile defines the level of investment risk you’re willing to accept, the investments that are right for you, and what allocations of each should be in your portfolio.
The factors that make up your investor profile include your:
- Investment objectives / Financial goals
- Standard of living expectations in retirement
- Time horizon
- Life expectancy
- Current age
- Risk tolerance
- Return expectations
- Current financial situation
To arrive at an answer, most financial advisors will give you a list of questions to answer. If you simply googled “investor profile” you’ll find links to numerous quizzes and questionnaires.
The goal of these questionnaires is to determine if you are a conservative, moderate, or aggressive (or some subcategory of the three) investor.
Just keep in mind that your investor profile isn’t static. As things change, your profile and investment strategies will change. And in general, financial advisors recommend you have less risky investments and safer income investments in your portfolio as you get closer to retirement.
Once you know what type of investor you are, you can now look to allocate investment money accordingly. Below is just one of the countless variations of an investment plan that traditional financial advisors might recommend.
Minimal Risk Investors
Minimal-risk investors have little to no tolerance for risk. Their primary focus is capital preservation. They are fine with smaller returns as long as they are reasonably certain that their capital is protected. These people tend to have low-risk tolerances or short timeframes before they need access to their capital.
Conservative investors value cash flow over capital appreciation. They have a low-risk tolerance and can only tolerate small short-term fluctuations in value. The potential for small losses is acceptable in return for the potential for modest returns. Larger losses are not palatable.
Moderately Conservative Investors
Moderately conservative investors are still focused on capital preservation and income investing. However, they can tolerate slightly more risk with market conditions.
They won’t take heavy positions in high-risk investments as capital appreciation is not their priority. Nevertheless, the opportunity for capital gains is intriguing so equities make up a minority position in their portfolio.
Balanced investors are moderates looking for a balanced return between both high-risk equities and lower-risk income investments. They tend to have a medium-term time horizon and are able to accept moderate losses in return for the potential for moderate gains.
Growth investors have a high-risk tolerance. They are willing to risk losing large amounts of capital in exchange for the opportunity to maximize returns. They can tolerate large fluctuations in value and tend to have longer time horizons before they would need access to their capital. Growth investors typically have little to no need for recurrent income. Therefore, these investors lean towards growth stocks, much more than less risky dividend-paying blue-chip stocks.
Aggressive Growth Investors
Aggressive growth investors have very high-risk tolerances. They are willing to accept severe fluctuations and sustained losses. They have long time horizons and no need for current income. It’s not uncommon for these investors to be young (20’s and 30’s) and to have large incomes outside of their investments.
Aggressive investors have equities in their portfolios, but they also tend to invest in hedge funds and speculative assets like venture capital, cryptocurrency, commodity futures, and others.
Fixed Income Investing vs. Variable Income Investing
If you’re like most people, you’re going to have some income investments in your portfolio. And as you get older, the percentage of your portfolio that is made up of income investments will grow.
For that reason, you should know the difference between fixed-income and variable-income investments.
Fixed-income investments pay a prescribed amount of income on a regular schedule. Additionally, fixed-income investments often have fixed interest rates that they pay.
A certificate of deposit (CD) is an example of a fixed-rate investment, as is a money market fund. However, the most common type of fixed-rate income investment is bonds.
A bond is an investment vehicle in which one loans money to an entity in return for a promise to pay back the principal along with interest. The three most common types of bonds you will encounter are:
Treasury bonds are government bonds issued by the United States Treasury Department. When you purchase T-bonds, you are loaning the Federal Government your money. The family of Treasuries the government offers are T-bonds (20 or 30 years maturities), T-notes (maturities range from 2-10 years), and T-bills (maturity range of four weeks to one year).
Municipal bonds are also debt securities, but these are issued by state and local governments.
Corporate bonds are debt securities issued by corporations.
Variable Income Investing
Variable income investments are those that produce income that is not fixed in amount and or timing.
While a bond might pay a fixed amount each month, a variable income investment produces different amounts that can vary due to the future performance of the investment.
Variable income investments have the potential for higher returns than fixed income investments, but many of them have higher risks too.
An example of a higher risk variable income investments are dividend stocks and mutual funds. An example of a lower risk variable income investment is multifamily real estate.
Five Reasons Why Investors Seek Income
Income investing has many compelling features. Below are five reasons why someone would want to add an income strategy to their investment portfolio.
Fixed-income securities (bonds) have been an essential portfolio component for many reasons including their low correlation to stocks. For many investors, when stocks were up, bonds were down. A balanced asset allocation is crucial to a diversified investing strategy.
Bonds have also had a reputation for being a low-volatility asset class. Having them in your portfolio alongside equities can help to smooth out some of the volatility of the stock market.
For most people, their only source of income is their job. Developing passive income streams that aren’t dependent on one’s labor provides security. Those passive investments can supplement unexpected expenses, prolonged illnesses, or lifestyle decisions like switching from full-time to part-time work.
Fund Education or Other Large Expenditures
For those with high school-age children, college is just around the corner. Some will have well-funded college savings plans. Others will not. Income investments can be used to supplement those college expenses. In fact, many retirement accounts will allow you to take that income out of the account without penalty to fund those expenses.
Without a drastic decline in one’s lifestyle, most people will not be able to survive on social security alone. That’s why it’s imperative to invest in your future. Some people are comfortable with consuming their nest egg over time. They will draw down their accounts by withdrawing funds regularly to fund their retirement.
However, if you look at professional financial plans, most call for an investor to have the bulk of their assets in income investments by the time they retire. Having recurrent streams of income available to fund your retirement protects one’s capital from unexpected expenses and leaves a legacy to provide for future generations.
The Disruption of Traditional Investment Plans
If you look back at the graphic presented earlier in this article, you’ll notice that regardless of your investor profile, the financial advice was to maintain an investment portfolio composed of two investment categories – Fixed Income and Equities.
That means stocks and bonds. Certainly, the proportion of each varies depending on your investor profile but based on past performance that has been the advice historically. And for years, that advice was sound.
From 1980 through 1999 the S&P 500 produced a 13.3% annualized rate of return. Unfortunately, the subsequent corresponding time period of 2000 through 2019 only yielded a paltry 4.8% annualized rate of return.
Sadly, the stock market has not been as stable or as profitable as it had been in the 1980s and 1990s.
As for the bond market, the story is similar.
With depressed returns from both equities and fixed income investments traditional financial advice has not fared well over the last twenty years.
How Real Estate Saved The Traditional Financial Plan
Real estate has proven to be the best investment over the last twenty years. And research has shown that adding real estate to the traditional stock/bond portfolio does three things:
- Increases returns
- Decreases risk
- Increases stability
I’ve discussed this in detail and presented the research in two articles and a white paper.
- A Guide to Real Estate Investment Funds
- Why Invest in Real Estate – Top 5 Reasons
- Evidence Based Investing
Multifamily real estate has proven to provide high returns in a lower-risk asset class. It has produced recurrent income that exceeds the yields from bonds.
For that reason, many income investors have replaced part or all of their bond investments with multifamily real estate.
Bonds have inflation risk that real estate doesn’t have. Since bonds have fixed rates, inflation that exceeds those rates leaves investors losing purchasing power.
Alternatively, real estate acts as a hedge against inflation. Since inflation leads to higher rents, real estate returns have a long history of outpacing inflation.
The 37th Parallel Properties Advantage
37th Parallel Properties is a private real estate acquisition and asset management company based in Richmond Virginia. We invest in large A/B grade multifamily apartment buildings in high quality Southern and Southeastern markets.
With nearly $1 Billion dollars in transaction volume we’ve maintained a 100% profitable track record for our community of individual accredited investors, family offices, and institutions investors.
Our current investment offering 37th Parallel Fund II – Income and Total Return extends options for both income investing focused individuals and those who prefer a blended return composed of both income and equity growth.
Class A shares specifically offer a 9% annual preferred return for income minded investors. Those investors get first access to cash flows with a return that surpasses CPI and far exceeds current bond rates.
If you’re interested in multifamily real estate, then you should take a hard look at Fund II. Contact us with your questions and to get more information for investing in your future.