Northstar Retirement Stock Income Index
Introduction
The goal of our Retirement Stock Index is to help investors understand how to utilize stocks for the purpose of producing retirement income. If you had a chance to read about our Northstar Retirement Income Index, you’ll notice that the index is a blend of both stocks and bonds. Often, however, in reviewing the total index returns, it’s hard to tell how the stocks performed. And since stock holdings are the most volatile, we thought it would be helpful to run an index that simply held the stocks that we use in our Retirement Income Index. So we created our Retirement Stock Income Index to highlight the returns and performance of only the stock holdings.
Stock Index Holdings
Our Retirement Stock Income Index consists of approximately 48 different companies. The stocks in the index are selected for their ability to produce a meaningful current dividend and to grow their dividend over the long term.
The Index is well diversified and holds stocks from all 10 of the major stock market sectors: Consumer Staples, Industrials, Health Care, Technology, Energy, Consumer Discretionary, Materials, Utilities, Telecommunications and Financials.
Equally Weighted
Moreover, the stocks in our index are equally weighted. We do not follow a market cap weighting approach, as most other indices do. The reason we equally weight our stocks is to build more risk management into the index.
Because we include stocks in the index for their ability to produce current and growing income, if we weight the stocks by size, we may end up over-concentrating the index in a few holdings or sectors. If those holdings or sectors have difficulty, then the index may suffer a significant decline in income, as well as price.
Investors learned this with the S&P 500 during the financial crisis. Because finance companies were so big, a large percentage of the index (and consequently a large percentage of the dividend flow) was concentrated in financial services firms. As the price of those stocks, and the dividends they paid, crashed, the index experienced significant declines in both price and income.
Since the focus of our Retirement Stock Income Index is to create an index that helps investors understand how to live off their money, we want to be careful about how the index is constructed so that the index is not subject to severe income declines from a few companies or one industry sector.
Growing Income
And it’s not just current income we are concerned about. Because of the impact of inflation, the income produced today needs to grow over the years to help investors maintain their standard of living. If it doesn’t grow, then inflation essentially eats away at your purchasing power.
For instance, if inflation ran at 3% a year for 25 years, your purchasing power would be roughly cut in half. That means if your income never grew, you could only buy half of the services and goods that you could buy today. Essentially, you are becoming less wealthy as you age if you can’t keep up with inflation.
Stocks that produce growing dividends can be one of the most effective ways to not only keep up with inflation, but to also outpace inflation. It is the dividend growth that is really important for investors to understand.
For instance, if you have $1,000 of dividend income that is growing at 6% a year, 25 years from now, you would be receiving about $4,300 a year in dividends, or more than four times the income stream you started with. That’s how stock dividends can help you keep up with and even outpace inflation.
As mentioned, our Retirement Stock Income Index holds stocks that investors can live off because we are focused on creating an index of companies that pay and grow their dividends.
Returns
Our Retirement Stock Income Index was created on June 30, 2008. We recently finished the three and a half year cycle for the index as of December 31, 2011. The index’s since inception returns help to illustrate how a specific type of stock can be helpful in creating retirement income.
On an annualized basis, our Retirement Stock Income Index total return was 8.25% as of the end of 2011, compared to the S&P 500 annualized total return of 1.75% over that same period. Now, our goal is not to beat or even track the S&P 500, but investors are often curious about how certain indices compare to each other.
Moreover, the average dividend growth rate for the stocks in our index was about 8% for the last year, which means the cash flow is growing faster than the rate of inflation. And our current yield for the stocks in the index is about 3.4% as of January 2012. In the index graph, the blue line charts the price of the index and the orange line shows you how much the dividends have contributed to the total return. As you can see, over time, the dividend growth is a very important component of total return.
Portfolios/Contact Us
While you cannot invest directly in an index, we attempt to track our Retirement Stock Index holdings in client portfolios, with due consideration for individual client risk profile, tax and other criteria. If you’re interested in discussing our approach to owning stocks in retirement, or as you prepare for retirement, feel free to contact Charlie Farrell at cfarrell@northstarinvest.com, or call the office at 303 832 2300.
Disclosure
The Farrell-Northstar Retirement Stock Income Index is a list of fixed equity securities. The FNRI Index is for informational and educational purposes only. Investors cannot invest in an index and the FNRI Index does not represent an actual security or portfolio. Equity statistics are estimates and were obtained from Ford Equity Research for each individual equity holding in the FNRI Index. Historical dividend payments on the S&P 500 were obtained from Standard & Poor’s. Statistics for the master limited partnerships and energy trusts are excluded from the PE calculation as those securities have different financial structures that need to be analyzed under different valuation metrics. Past performance is no guarantee of future returns. FNRI Index returns have been certified by Standard & Poor's. Consult your individual financial advisor prior to making any financial decisions. Investing involves multiple risks, including but not limited to the permanent loss of capital. Individuals cannot invest in an index.