When I imagine my twilight years, I am not sitting in a cramped flat watching ‘Homes under the Hammer’. Rather I am making that once-in-a lifetime trip on the Trans-Siberian Express all the way to Vladivostok (this may just be me…?). But is retirement a fundamentally flawed concept? Another triumph of marketing over reality?
Certainly this week’s government announcement that it is phasing in the rise in state pension age to 68 from 2037 rather than 2044 suggests that there may be ‘trouble-at-t’mill’. If the taxpayer can’t afford to prop up retirees income in a retirement that will last 40 years for some, how on earth can retirees afford to support themselves?
The ‘pension freedoms’ has added fuel to the fire. Freedom sounds exciting and seems aspirational. Finally the retiree is in control of his or her hard-won pension savings and has some choice. Retirees can sweat their pension pots by keeping the capital invested: taking some income, making the occasional big outlay and all the while there is the promise that the remainder of that capital will grow.
This all sounds simple but it isn’t. And maybe that’s fine because we can lean on financial advisers who will help us to make the right decisions and stop us running out of money (if we have enough money).
In the years post RDR, the pension freedoms have been a boon to financial advisers, many of whom serve the SME market, a segment of the population who have never enjoyed the benefits of a DB pension. Most advisers we have spoken to for our UK Fund Distribution: Advice in Decumulation report (out next week) tell us that their services are in high demand. And these advisers are overwhelmingly serving clients over 55 – 76% of client assets are held by the over 55s with an even split of clients in accumulation and decumulation.
But advisers are also tussling with complexity in decumulation and the critical issue of the sustainable rate of withdrawal. At a recent roundtable we held for advisers to support our white paper with Jupiter Asset Management, The Income Challenge, their greatest concern was to achieve predictable returns for their clients. And no adviser had any clients prepared to live off natural income. 5% of assets (net of fees) seemed to be the magic number for retirement withdrawals. The advisers accepted that 5% would eat into their clients’ capital but felt that was OK. Indeed our wider research supports that advisers are focused on total returns: nine out of ten (89%) advisers recommend a mixed asset portfolio to investors in drawdown from which to draw capital and income on a regular basis.
A key question for advisers is whether to use different portfolios in decumulation compared with the accumulation phase. Where a bucketing strategy is used, the case could be made that there is no need to design a different portfolio: in periods of negative returns, the strain is taken by the income reserve. However, if there is no income reserve, either the portfolio needs to be designed to resist ‘pound-cost ravaging’ by withdrawals, or the advice process must include provision for reduction or even suspension of withdrawals.
But some are highly sceptical about simple cash reserving. Old Mutual Wealth recently produced a paper suggesting that “the cash element can provide a drag which has a negative long term impact on the portfolio.” It believes that a dynamic reserving strategy is preferable, where cash weightings are increased in periods of market volatility and decreased when steady returns are being achieved. This is sophisticated stuff and requires dynamic management of withdrawals for who knows how long.
There are also major implications for platforms. As one platform boss put it to us, “Platforms are decumulation vehicles – the average age on our platform is 68/69 and most of the investors are in some sort of decumulation…There are not sophisticated ways to manage clients’ income.” Advisers will be looking to platforms to help them but currently only four can make regular payments to clients on any day of the month. Re-platforming should help: one platform currently going through this process tells us that “in the new world the client can choose the day of the month.” But dynamic withdrawal management is administratively complicated.
So in this new reality where 85% of advised pension assets are going into drawdown (up from 73% last year), the evidence is that we haven’t yet got to grips with how to achieve sustainable withdrawals over a potentially very long period of time. Can advisers get clients to tighten their belts in the leaner years and to spend more in the good times? Our adviser roundtables suggest that this is a tough ask.
In a retirement lasting 40 years, our requirements for withdrawals and for investment returns will also change as our health and relationships change. Throw in the inevitable tweaks to the tax system and this could be a fiendishly complicated withdrawal picture.
Platforms, advisers and asset managers must work together to establish better approaches. But as a society we need to re-set our expectations. Would part-time work for a longer period of time help us keep our sanity and shore up our finances for that bit longer? Do we really need the same income in retirement year-on-year like a salary? This is one of the biggest challenges we face as a society and we are still groping towards the light. If our unrealistic dreams of retirement have been created by clever marketeers, perhaps it’s time to change the conversation.
Platforum recently partnered with Jupiter Asset Management to produce a white paper on ‘The income challenge.’ You can access it here.
You can also view Heather Hopkins, Head of Platforum’s interview with James Crossley, Head of Retail Distribution, Jupiter Asset Management.