Drawdown  

Risks and sequence of returns in retirement

This article is part of
Guide to boosting retirement income

Risks and sequence of returns in retirement

With life expectancies on the rise, retirement is becoming more complicated than it was several years ago. 

Most people may wonder what the biggest risks facing them are apart from the obvious, outliving their pension pots. 

The introduction of pension freedoms in 2015, means that individuals have greater choice on how to decumulate their retirement income, albeit exposing themselves to greater risk. 

So what are the risks faced once people get into retirement? 

Outliving your pension 

Fiona Tait, technical director at Intelligent Pensions believes the biggest risk is a lack of understanding by people on how much they can afford and running out of their money too soon. 

She says: “The average retirement age in the UK is still in the mid-sixties, 65.1 years old in 2018 for men, and 63.9 years old in for women, and more and more people choose not to buy an annuity at this age.” 

“There are some good reasons for this however, the result is that people are not securing a guaranteed income for life and must therefore budget and manage for a retirement which could last a lot longer than they think,” adds Ms Tait. 

Udit Garg, head of wealth management at Sun Global Investments agrees. 

He says: “Rising life expectancy means that more people in the UK will reach retirement age than ever before, although this is a good thing, this also means that there are more growing pressures of late-life financial risks if people are unprepared.” 

Lorna Blyth, head of investment solutions at Royal London highlights how concerns and income needs will shift over the course of retirement as some might want to prioritise holidays while others may care about more long-term costs. 

She adds:  “There is no silver bullet which will meet all our preferences for income, security, flexibility and value for money and ultimately we will need to trade off some preferences for others.”

Ms Blyth says things to consider include: 

  • Income needs
  • Existing retirement savings
  • Personal circumstances
  • Life expectancy
  • Long term care needs
  • Impact of costs and charges
  • Investment strategy and impact of investment returns
  • Attitude to risk
  • Capacity for loss
  • Ms Tait says another significant risk is scams as those  who have spent years building up a retirement fund could lose the entire amount to a scam.
  • According to Ms Tait, scams are constantly evolving and even financially savvy individuals do not always recognise one when they come across it. 
  • She adds:  “The regulators have introduced a number of initiatives to address this issue but the greatest protection will come from a long term relationship with a financial adviser where trust is built up over a period of time.”

Sequence of returns risk 

Many in the industry highlighted that sequence of returns is the biggest risk facing those in retirement. 

Sequence of returns is that the timing of withdrawals from a retirement portfolio will have an adverse impact on the overall return available to the investor. 

The losses may be more pronounced for the investor who is dependent on the income and is no longer making contributions that could reduce the losses.

Ms Tait points out that those who choose not to buy an annuity and remain in drawdown are still subject to investment risk. 

She adds:  “Negative returns in the early years are particularly damaging as they cannot be offset against growth achieved prior to impact.”

This concern is echoed by several others in the industry. 

Ricky Chan, chartered financial planner and director at IFS Wealth and Pensions says: “A poor sequence of returns in retirement while in drawdown, dramatically increases the chance of the pension fund being exhausted. It’s also sometimes called “pound-cost-ravaging”.”