Pre- and post-retirement solutions: how do you structure your client’s investment so you ensure he/she has an income for life?
With life expectancies increasing around the world and more and more people reaching retirement, the need for appropriate retirement planning is more relevant than ever. Not only are more people surviving to retirement age, but once they get there, their life expectancy in retirement is not decreasing – in fact it is accelerating.
Those in good health and in developed nations are living as much as a decade longer than their parents did, not because ageing has been slowed or reversed, but because they are staying healthy to a more advanced age. This means that they need to provide for their retirement years for far longer and save more towards retirement while they are working.
Most clients are aware of the need to save for retirement, but many are not sure where to start. It is up to you, the financial adviser to put an optimal retirement strategy in place for the client.
The optimal retirement strategy
Retirement planning needs to happen over a client’s working life. The diagram above shows a graphic illustration of an optimal retirement strategy for a client from pre-retirement through to post-retirement. There are many ways in which a client can save for retirement, but the most appropriate product will differ from client to client. It is important to select the appropriate product before making the decision on the underlying funds.
Once the decision has been made as to what retirement product your client requires, the underlying funds can now be chosen. It is important to create a portfolio of funds that is aligned to your client’s risk profile, investment time horizon and it is imperative that your client invests into a reputable asset management house. One relies on forecasted returns to assess what funds are required to build a retirement lump sum to meet the retirement objective. The problem comes in where the actual returns of the fund differ significantly from the forecasted returns, highlighting the need to invest with a reputable asset management house, one that is stable and consistent.
How much your client should be saving will depend on his/her requirements at retirement. However, clients should not delay saving for their retirement. The earlier the contributions begin, the greater the investment value at retirement. This is not only due to the fact that more contributions can be made, but also due to the power of compounding.
Five years before a client’s normal retirement date, your client should start transitioning his/her savings into more conservative funds. You need to make sure that your client has a more balanced type of portfolio and that you limit your client’s exposure to the riskier asset classes. Again, this will differ from client to client as some clients can still take on risk, even after retirement.
The decision at retirement is a critical one for your client and you need to discuss all the options available – will your client transfer his/her retirement savings into a living annuity or a life annuity? The benefits and disadvantages of each of these types of annuities need to be explained to clients before they make a decision on where they want to invest their retirement savings.
As retirees, clients want to balance safety with the need for growth while maintaining their lifestyles. To achieve these goals, these risks need to be mitigated:
- Outliving investments
- Losing ground to inflation
- Withdrawing assets too quickly
- Seeing investment values fall in bear markets
- Not having the right asset mix for growth
An effective post- retirement strategy should include the following:
- Manage longevity risk – hedge essential expenses with sources of lifetime income
- Manage inflation risk – investment portfolio can grow to provide measure of relief; withdrawals managed; increased life annuitisation over time and/ or possible defensive strategy through conservative variable annuities
- Manage withdrawal risk – may lower discretionary expenses as needed in downwards market
- Manage market risk – Use of guaranteed income to cover essential expenses; removes urgency to take portfolio assets out
- Manage asset allocation risk – Spending for discretionary expenses is optional; more courage to stay with more aggressive asset allocation during market downturns