The traditional and crypto markets are reeling.
Due to inflation, recession fears, war, high energy prices, supply constraints, and political conflict, 2022 was not kind to these markets. For 2022, the S&P 500 was down 19.44%, and for crypto, Bitcoin was down 65%, representing the crypto market as a whole.
Historically, the knee-jerk reaction from investors to a reeling stock market is to allocate away from equity towards income assets. This has been the case this go around as well.
“Income Investing Is Making a Comeback.” –37parallel.com.
The type of headlines you see above has become more common because that’s what investors have always done in response to a volatile stock market – invest for income. However, BUYER BEWARE! There is a right way and a wrong way to invest for income. The traditional way is the wrong way.
The traditional way of investing for income is to invest in traditional fixed-income assets. This class of assets includes certificates of deposits (CDs), money market accounts (MMA’s), high yield savings accounts (HYSA’s), U.S. government treasuries, corporate bonds, annuities, etc. The mindset for allocating these assets is to preserve capital.
Traditional Mindset: Fixed Income Preserves Capital
The problem with this mindset is that it’s typically not a good investment strategy – even less so in an inflationary environment. That’s because even the best-paying fixed-income asset (e.g., a 5-year CD paying 5.0%) fails to keep pace with inflation. So, even as you run to shelter from a quick death in the stock market, fixed-income assets are just a slower form of death. Fixed-income proponents will tell you it’s the lesser of two evils. You have to give up yield if you want less risk and protection from volatility. That’s the traditional way of thinking illustrated by the following graphic:
The traditional way of thinking is that you can’t invest for income without giving up returns. This may be true in the traditional markets where your only options are products offered by banks and the U.S. treasury. Still, the same does not hold in the private markets, where alternative investments with an income component buck the trend by exhibiting less risk without compromising returns.
Alternative Mindset: Passive Income Builds Wealth
Savvy investors don’t seek out income investments to shelter from volatility; they seek out income investments to build wealth.
The following illustration from Robert Kiyosaki encapsulates the wealthy mindset very well regarding income investments:
Assets that generate passive income are the key to wealth. That’s the difference between the traditional and alternative mindsets. While the average investor seeks out fixed-income assets like CDs and treasuries in the mistaken belief their capital will be preserved from market volatility, smart investors seek out income assets that generate cash flow for building and preserving wealth.
Winning Strategy: Play Offense, Not Defense
The winning strategy for income investments is to play offense, not defense. Don’t put your capital in assets that you think will protect your portfolio while inflation eats away at your wealth. Allocate to assets that will stay ahead of inflation. By running up the score against inflation by generating multiple streams of income, you will be able to not only achieve your goal of financial freedom but preserve capital for this and future generations. Only by playing offense will you be able to achieve financial independence.
You’ve already figured this out, but smart investors are not one-dimensional. They’re not happy with just winning in one aspect of their investments.
They want to take advantage of every asset’s possible investing benefit. That’s why they’re drawn to private alternative assets that offer cash flow from a tangible asset.
Here’s a summary of why these assets appeal to sophisticated investors:
- Passive income.
- Long-term growth.
- Illiquidity for protection against volatility.
- High-demand asset with income that outpaces inflation.
- Tax benefits.
To be a winner in the investing game, you have to change your mindset from settling for lower returns to minimizing risk to seek out higher returns while ignoring the crowd’s cries of high risk.
The wealthy ignore the noise and the traditional mindset that says you can’t achieve high returns at reduced risk. In the private markets, it is possible to achieve higher returns from income investments at lower levels of risk.