Equity indexed annuities offer retirees a compelling combination of guaranteed income and participation in the market’s upside. But EIAs are exceedingly complex and have been the subject of numerous regulatory challenges. For those who seek a simpler alternative with a comparable return profile, a combination of fixed-income securities and options is viable choice.

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European equity prices, depressed by fears of a sovereign debt crisis, are cheap to such a degree that William Bernstein, author of The Intelligent Asset Allocator, called them a true bargain. Income-oriented investors, in particular, may be tempted by 4.2% dividend yields and a market-wide P/E ratio of approximately 11. My analysis, however, contradicts Bernstein’s and shows the underlying risk those investments carry.

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Bill Gross made headlines in February by asserting that U.S. Treasury bonds were not providing enough yield to make them worth the risk and reducing his allocation to zero in the PIMCO Total Return Fund (institutional share class PTTRX). The subsequent rally forced him to admit his mistake in August, but by then his fund was trailing 90% of its peers and having its worst year since 1995. I will examine Gross’ February decision in retrospect, to illustrate its tactical and strategic costs and benefits...
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None other than Gluskin Sheff’s Dave Rosenberg, the widely followed analyst who was been consistently bearish in the current market cycle, said last week that high-yield (HY) bonds are “a good place to be right now.” Recent price declines have made them attractive in the short term, and their risk-adjusted returns make them attractive to longer-term strategic investors.

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The Ultimate Income Portfolio, which was published in this newsletter July 6 of last year, has delivered the risk-adjusted returns that I projected. Here’s a detailed look at how last year’s portfolio performed and several ways it can be improved in today’s environment.

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Jeremy Siegel’s dictum – to invest in stocks for the long run – faces a new challenge. A recent paper by Robert Stambaugh, a Wharton colleague, and Lubos Pastor of the University of Chicago says that once you take into account the uncertainty of estimating future returns, stocks are not nearly as attractive to retirement-oriented investors as Siegel has claimed.

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Prominent investors, including Bill Gross and Warren Buffett, now say that the yields on long-term government debt do not justify the risks. But is this perception correct? I offer a way to answer that question – and to construct a low-risk high-income portfolio – using the prices of put options to derive the true risk levels of various asset classes.

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Volatility in the equity markets has subsided, courtesy of a strong bull market and fading memories of the 2008 financial crisis. Risks remain, however, ranging from the turmoil in northern Africa to sovereign debt instability in Europe. Investors can take advantage of the complacency in the equity markets by purchasing inexpensive insurance against adverse events.Content 5

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Over the last decade, the assets of the fund PRPFX have swelled from $50 million to more than $10 billion. The concept underlying that fund, Harry Browne’s Permanent Portfolio (PP), has rewarded PRPFX investors with attractive risk-adjusted returns. Those investors, however, may want to rethink their exposure – especially if PRPFX is the core of a retirement-oriented strategy.

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Here’s a little-known fact: The traditional 60/40 portfolio, when using the aggregate-bond index for its fixed-income allocation, has a 99% correlation to the returns of the S&P 500. Rob Arnott pointed this out in 2004, and it remains true today.

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One of the greatest concerns for income-oriented investors is the possibility that dividends will be cut. The financial crisis showed that traditional metrics, such as a stock’s dividend history and its payout ratio, failed to warn investors of impending dividend cuts. By evaluating stocks based on volatility, however, investors can select securities that are more likely to maintain or improve their dividend rates.

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Vanguard advertises that its mission is to simplify investors’ retirement decisions. In a recently published study, however, it oversimplified the critical choices investors and their advisors face in constructing a portfolio for the withdrawal phase of retirement.

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