The Case for Income Portfolios

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Given the recent run-up in stock markets, we thought it would be useful to review the case for including bonds and other income generating assets in an investment portfolio.

Over time, publicly traded stocks generally earn higher rates of returns than corporate bonds and other loan-oriented investments.  This is almost a fundamental law of finance in the much the same way that gravity is an indisputable force of nature.

Beyond offering a fixed maturity date and an established rate of interest, the basic reason that corporate bonds earn lower returns is that in the event of bankruptcy, bondholders are entitled to receive whatever is owed to them before stockholders receive anything.  This priority makes bonds inherently less risky than stocks as owning shares in a company offers a less certain promise of return.

At the same time, stocks must offer the opportunity for higher returns by offering shareholders the ability to keep all the profits a company earns (no matter how large or small) after bondholders are paid a fixed rate of return.  If stocks did not offer this upside, no rational investor would ever choose them over bonds.

But not all investors are created alike, and not all investors have the singular goal of earning the highest potential rate of return, irrespective of risk.  Preservation of capital, or perhaps even a controlled drawdown of funds over time, is an equally important goal for many investors.  The investor who relies on their portfolio to fund their lifestyle often desires p