In Focus: Retirement Income  

Why I created my own cashflow model

Simon Panton

Simon Panton

The regulators have, for a few years now, started to look more closely at cashflow and clients' exposure to risk.

Adviser have in the past, and some still do, talk about attitude to risk and a little about capacity for loss. Some advisers even ask their clients how much they can afford to lose.

It is the the job of the adviser to find out and advise accordingly. Capacity for loss has nothing to do with 'attitude to risk'; it has everything to do with cashflow, and this is where many cashflow models fail.

Cashflow models make general assumptions in respect of inflation, charges and growth. 

But they do not translate clients' exposure to risk into cashflow losses.

So, for example, some of the more popular offerings on the market would state there is a 5 per cent chance of your fund falling by, for example, 18 per cent, then every 10 years if a client is considered to be 'balanced risk'.

My cashflow planning process takes this risk and incorporates it into a clients' cashflow plan and assumes that it is going to happen.

It then calculates sustainable income based upon this assumption, as well as using expected growth rates for that level of risk, charges, and so on and so forth.

This means that assumptions for risk are directly related to the amount of risk a client is exposed to, and not based upon a generalised assumption.

The adviser's job is then to ensure the client's portfolio is risk targeted through their research processes.

If the portfolio is properly managed, then cashflow and client exposure to risk will always be linked and managed.

The next challenge for clients in income drawdown is how they take their income. So, for example, based upon the above assumptions the impact of Covid in 2020 should have had no impact on the client's cashflow.

The immediate financial loss that COVID bought was effectively predicted using the assumption of an immediate fall in value, as above.

How proper cashflow planning works best for income drawdown is when income is taken not from the investment but from a separate cash fund. 

For example, a client enters income drawdown in 2019 and he needs a £1000 per month.

The cashflow model I wrote calculates whether this is sustainable or not assuming an immediate crash based upon the client exposure to risk.

Three to five years of income is then taken out of the investment into the cash account, and this is used to provide income.

So we do this in April/May 2019, for example. The clients annual review is in April/ May 2020. We have already assumed a Covid crash (it was built into the model).