Riding the retirement tsunami
Riding the retirement tsunami
It’s now been around three weeks since Australian retirees have been able to make a super contribution of up to $300,000 from the proceeds of their house – the question is, how should that money best be used?
As announced in the 2017-18 Budget, this new non-concessional (post-tax) contribution will let over-65s top up their super with a view to encouraging them to downsize into “housing that is more suitable to their needs, freeing up larger family homes.”
While this is a positive step for many retiree downsizers, it also puts the spotlight back on how super balances can best be implemented to deliver sustainable retirement outcomes.
The key issue here is that there are two separate dangers for any retiree’s investment portfolio. The first is known as “longevity risk,” and this is basically the danger that someone will eventually outlive their savings – not an unrealistic prospect, given that life expectancies are on the rise.
The second (and probably more familiar) one is what the industry calls “sequencing risk.” All this really refers to is that your portfolio might be exposed to a severe market downturn at any given time, losing you money in the process. Think of how stocks were affected by the GFC and you’ll get the idea.
There’s no easy solution to this issue, but here are several ways you and your adviser can think about tackling the problem.
The lifecycle solution
While these have been around for a while, many more super funds are now introducing what’s known as a “lifecycle” investment option. These work by gradually “de-risking” your super account as you age, reducing your investments in stocks and property and bumping up the amount stored in cash and bonds.
Lifecycle options are designed to address the basic principle that you can afford fewer risks to your balance as you enter retirement and no longer have a steady income to rely on.
As with any “de-risked” portfolio, though, there will always be the opportunity cost of missing out on capital growth from stocks and other riskier assets, especially now that Australians are living longer than ever.
Another approach to the retirement income conundrum focuses on the idea of “income layering,” whereby multiple “buckets” of income provide a steady stream above your minimum income requirement over time. These buckets often feature a blend of life-time annuities (a product you invest in that provides a steady stream of income over time), stocks, top-up income, defensive assets (once again, your cash and bonds) and, ultimately, the pension.
As a FINSIA report co-authored by Challenger’s retirement income chair Jeremy Cooper notes, though, “such a bucket approach is only achievable when there are assets available after setting the required minimum income level.”
A way to mitigate these problems could be via using a deferred lifetime annuity (DLA) – unlike traditional annuities, the income stream from these only “kicks in” at a later date, so that 20 years down the track you still have regular income after other investments have been depleted.
The rising proportion of Australians entering retirement – often referred to colloquially as the “silver tsunami” – has driven further innovations in the relevant product space.
One approach consists of a model which combines a steady income stream, capital growth and a “bonus” which is paid out whenever someone else invested in the same product leaves or passes away.
Another approach uses a “de-risking” portfolio (on top of the normal one) which can grow in size as an “overlay” to protect against potential market downturns. This operates as a form of “course correction” comparable to the technology used in Google Maps. This overlay can be turned off and on as appropriate and is designed to predict market movements using data and algorithms.
No two are alike
Ultimately, though, if the above ideas suggest anything, it’s that the final judge of which way to best manage retirement outcomes is you and your adviser. The reality is that every retiree will have different risk tolerances and retirement goals, and a “one-size-fits-all” approach will never deliver the perfect outcome.
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