How can we get £80,000 a year and inflation-beating growth?

Hugh is age 57 and retired. His wife works in a public sector role and earns £100,000 per year. She will retire in six to 18 months and receive a defined benefit pension of around £35,000 a year. Their son is a student.

Hugh and his wife’s home is worth about £900,000 and mortgage-free.

“We hope to get an income of around £80,000 a year from our portfolio when my wife retires in the next few years,” says Hugh. “Of this £50,000 will be from self-invested personal pensions (Sipps) to minimise tax. "I would also like our investments to make a return equivalent to inflation plus 2 per cent to 4 per cent.

"As our years of earning salaries are coming to an end, a fall in the investments’ value of more than 20 per cent in a given year would be a concern, as I think it would require a recovery of at least 25 per cent just to get even again.

"I have been investing for 25 years, and try to diversify our investments geographically and stylistically via a balanced approach. We have a lot of equity exposure because I understand them better than other assets such as bonds. I have recently sold holdings in the Jupiter Absolute Return (GB00B6Q84T67) and Invesco Global Targeted Returns (GB00BJ04HL49) funds because I didn’t really understand them and they had performed poorly over the past few years – despite market volatility.

"That said, I have recently purchased precious metals and index-linked bond funds. And I am thinking of investing a small amount in cryptocurrencies in case they become a core investment asset in the future.

"Our equity investments have been under-exposed to US over the past few years because I thought that this market was overvalued. And I'm still worried about a correction.

"I remain negative on the outlook for the UK in the medium to long term, though think that there may be a short-term opportunity and have a few UK funds and direct share holdings. I pick the latter opportunistically and do not consider them as core holdings.

"I have had high emerging markets and Asia exposure for a number of years, and these areas haven’t performed as strongly as some developed markets during this time. But they seem well-positioned for the next few years.

"I would like to increase the Japan exposure, and technology and healthcare funds though they look expensive. Renewable energy looks very interesting and recent purchases include Downing Renewables & Infrastructure Trust (DORE), Gresham House Energy Storage Fund (GRID), Pictet Clean Energy (LU0448836949) and Guinness Sustainable Energy (IE00BFYV9L73). I also considering adding some renewable energy exchange traded funds (ETFs).

"My son fully using his annual lifetime Isa (Lisa) allowance because he hopes to build up a deposit to buy a home in five to seven years. I run this and an individual savings account (Isa) for him, and we aim for the latter to be a long-term investment."

NONE OF THE COMMENTARY BELOW SHOULD BE REGARDED AS ADVICE. IT IS GENERAL INFORMATION BASED ON A SNAPSHOT OF THESE INVESTORS' CIRCUMSTANCES.

Chris Dillow, Investors' Chronicle's economist, says:

Don’t blame yourself for being under-exposed to the US. Much of the market’s rise in recent years has been powered by a handful of big tech companies because the market, like you, has been surprised by the persistence of monopoly power and the expectation that it will continue. The strength of the market is a symptom of economic dysfunction, a sign that the forces of competition and creative destruction are not working well.

But mistakes are learning opportunities, and this teaches us that we can over rate the importance of valuations. Expensive markets can become more expensive and cheap ones can become cheaper. It also teaches us the importance of what renowned US investor Warren Buffett calls economic moats – entrenched market positions that are great for companies to have.

It is reasonable to have offloaded your holdings in absolute return funds. Many of these don't do anything that a balanced portfolio of equities, cash, bonds and gold couldn't do – assets you already have.

It’s also reasonable to have decent emerging markets exposure, though not because they are plays on long-term growth. Their virtue is that they are cyclical so do better than most equities in economic good times. But the price of this is that they underperform in bad times, so you need an exit strategy.

So watch the US dollar, as a strong one is bad for emerging markets. Also watch the US yield curve because when the Federal funds rate rises above 10-year yields, it’s a signal that recession is on the way and you should sell cyclical assets. And look out for momentum: selling emerging markets when their price falls below their 10-month or 200-day average protects against the occasional deep bear market which really destroys wealth.

You also need exit strategies if you dip into renewable energy investments or cryptocurrencies. The problem with the renewables sector is what Aswath Damodaran, professor of finance at the Stern School of Business at New York University, calls the “big market delusion”. Investors have often overpaid for companies operating in potentially huge markets because they have over estimated their ability to generate hard profits. But there are many obstacles to profitable growth, for example, big markets attract new entrants resulting in competition, new technologies are hard to scale up, growth requires extra capital and managers can lose sight of costs. So expect to see waves of elation and disappointment in the sector which you can ride, to some extent, with the 10-month rule.

The same applies to cryptocurrencies. I  think that these will only supplant conventional money if there is a severe financial or political crisis, in which case equities will slump. So regard cryptocurrencies as purely speculative and momentum plays. And as they don’t have momentum just now perhaps delay buying them. And when you have bought them, remember to sell them the next time they lose momentum.

I think that you are a little over-diversified, though this is OK if you want to take a few punts out of interest. But if you hold so many different investments be very wary of expensive active funds as these add fees to your portfolio without materially affecting performance. Look instead to cheaper funds.

Dennis Hall, chartered financial planner at Yellowtail, says:

I don't see the connection between your investment rationale and portfolio. Although the portfolio shows commitment to saving and investing, I cannot fathom what drives investment returns. There are also too many funds – even before counting whatever your professionally-managed Sipps hold.

You sometimes invest opportunistically, but I think you also have a fear of missing out, or why would you consider cryptocurrencies? And if you think that bonds are difficult to understand, then cryptocurrencies will blow your mind!

Although you are looking for ‘alpha,’ you don’t need it. You can achieve an annual inflation-linked income of £80,000 while growing your capital ahead of inflation by simply holding the market long-term. Why add the additional risk of geographic or sector calls? You only need to remember the three golden rules of investing: invest in equities for the long term, be suitably diversified and make sure that you choose when you sell. And avoid making silly mistakes.

At a high level, diversification means holding different assets like equities, bonds and cash. A lot of research shows that a higher equity content delivers higher sustainable income throughout retirement, as long as you mitigate sequencing risk. This means holding sufficient amounts of cash so that when markets crash you don’t have to sell equities at a loss. I recommend holding around five years' worth of your expenditure in cash, and some suggest up to 10 years' worth. And your portfolio has enough cash.

In terms of diversification within asset classes, fund managers such as Terry Smith and Nick Train balance performance and diversification by holding 25 to 30 different stocks. But a global equities index fund might hold more than 11,000. However, few managers beat the index and most underperform. Warren Buffett, for example, famously bet the S&P 500 index against the brightest hedge fund managers over a 10-year period, and the one hedge fund which accepted the challenge lost. Statistically, buying the index serves most people better. But too many investors try to second guess the market, get it wrong and pay higher charges to do it.

A recent cancer diagnosis in my family and the sudden death of a 55-year-old friend are harsh reminders of how quickly things can change. I frequently challenge people to explain their investing philosophy to those that they are leaving their assets to when they die. And few can be confident that the portfolio they would pass on would fare well. So, not surprisingly, Warren Buffett has instructed those in charge of his estate to invest 90 percent of his money into a S&P 500 tracker fund for his wife after he dies.

I’ve learned from advising the bereaved that these decisions mustn't wait until after someone’s death. Simplifying things enables you and your beneficiaries to live confidently because you know that there’s a plan B if things go wrong.

Regardless of how you manage your portfolio, develop and write down your investment philosophy. Provide all the detail required for someone else to manage the portfolio if you weren’t here. Make clear why you hold each fund and share. This exercise will focus your mind and change the way you invest.

When you have established your investment philosophy compare it to those of the managers of the funds you hold. Are they all in alignment with you and each other? Or is it a mish-mash of ideas and styles? Many Warren Buffett disciples, for example, only invest in things they would feel comfortable holding even if they could not sell them for two years.