Bucket strategy needs to be revisited

Financial advisers need to change the way they manage clients’ cash buckets to generate more return in the current low-interest rate environment, Schroders believes.

Schroders deputy head of fixed income, Stuart Dear, said many retirees relied on their cash allocation to meet their day-to-day expenses but falling interest rates made it difficult to generate income without taking excessive amounts of risk.

He said the problem was further compounded on platforms where the rate paid to investors for cash accounts was nearing zero after fees.

“The income generated by the riskier buckets flows down to top up the cash bucket. With significantly lower return on cash, there is clearly a problem with this [bucket] model,” Dear said.

“Furthermore, while one percent has commonly been seen as an effective floor for the cash rate in Australia, we think rates can go lower still – even to zero, given the global experience.  And it’s likely that cash rates will be kept at low levels for a considerable period of time, exacerbating the challenges facing retirees, and indeed any investors, seeking the benefits of cash.”

Dear said it made sense to consider other alternatives.

“For example, a diversified, defensively oriented fixed income strategy that offers periodic income and daily liquidity could be a good substitute for part of the cash bucket,” he said.

“Of course, any alternative option must be considered in light of the trade-offs involved. By investing in alternative options to cash, investors are likely to be taking on more risk.  As such, advisers should choose options that can generate higher returns while preserving the liquidity and relative certainty of return their clients require – both key features of cash.

He said a fixed income strategy predominantly made up of high quality, liquid, publicly traded securities, could help the issue.

Advisers, dear said, could also consider dividing cash buckets into three further segments based on timeframes which would vary according to their clients’ liquidity and certainty requirements.

Alternate cash bucket

Source: Schroders