The transition from accumulating retirement funds to drawing an income used to be relatively problem-free for advisers: annuity rates were healthy and income drawdown withdrawals were restricted by Government Actuary Department rates. This meant that consumer overspending in retirement, using money wrapped in pension arrangements, was extremely unlikely.
But in the past decade the pension freedoms and other factors have heralded a dramatic shift in the way consumers access their retirement pots, and greater flexibility has made things tougher from the planning perspective. This was underlined by comments made last month by the FCA in its annual sector views paper.
The regulator said: “Some adviser firms have not yet updated their investment strategies for decumulation clients. In addition, they may not have adequately considered decumulation risks.”
What these strategies should look like is a matter of debate. Some advisers are taking fresh approaches, but they also feel there is no need to reinvent the wheel.
Paul Gibson, managing director at Granite Financial Planning, says: “Our investment approach does not necessarily change when clients start drawing an income from portfolios, but our planning approach does. Sustainability of income and portfolio longevity are front of mind, and we discuss tactics and strategies to try and ensure the retirement pot outlives the client.”
Watch out for ravaging
So what are the risks to which the regulator was referring? Although a client’s appetite for volatility may remain the same upon reaching retirement, their objectives switch from growth to income. The Lang Cat’s Mark Polson says that many firms are merely adjusting accumulation strategies into income-optimised products. And the consultancy’s research indicates, 70 per cent of companies are maintaining their clients’ existing portfolios and withdrawing cash.
But withdrawing funds at the wrong time can have a lasting effect on the remaining pot. A report by Thesis Asset Management outlines six key pitfalls for retirement income clients:
- Significant market falls;
- Volatility drag;
- Sequencing risk;
- Pound cost ravaging;
- Inflation risk;
- Longevity risk.
All should strike a chord with intermediaries, if not consumers. Generally, consumers will be aware that living longer and high inflation will make drawing a sustainable income more difficult, but sequencing risk and pound cost ravaging may draw blank faces.
The latter is simply the opposite of its better-known counterpart, pound cost averaging. Instead of investing regularly in volatile markets with a view to purchasing some shares at a lower price, pound cost ravaging requires the selling of more shares when markets are low in order to generate the required level of income. When this income dwindles away, and the individual has no access to other, less-volatile assets, then they are left with few answers other than perhaps turning to equity release.
A further issue for intermediaries concerns the platforms on which they manage investments. As Mr Polson adds, many still offer extremely limited functionality, and prevent advisers from working across several client pots at once – a possible barrier to the implementation of “hybrid” retirement income strategies. He believes technology will soon help resolve this problem, but for now platforms often struggle even with relatively straightforward tasks such as drawdown illustrations.