How to tackle the quandary over retirement income
- Credit: Getty Images/Vetta
Stock markets are renowned for being both cruel or kind towards investors prepared to embrace their inherent commercial risk. Perhaps this explains why opinions regarding a particular market’s future direction, or the likely behaviour of a specific share or fund can vary so dramatically.
Let me give you an example.
Earlier this month, I received separate emails from two highly respected fund management companies which provided their views on market performance over the first half of the year and respective opinions on how the rest of 2021 will unfold from an investment perspective.
When it came to an analysis of company share performance and other investment-related areas worthy of further consideration, their conclusions were broadly similar. Yet opinions diverged when the subject of government bonds arose.
One manager declared that bonds retained their appeal as a safe haven during times of market stress. Historically accurate. The other was keen to avoid bonds because interest rates were, in her opinion, likely to remain low for the foreseeable future. Also accurate.
For investors, especially those contemplating retirement or who have already clocked off at work for the final time, bonds once formed the cornerstone of a solid, minimum-risk portfolio. This all changed in March 2020 as stock markets nose-dived and governments worldwide hastily switched on the printing presses in an attempt to flood markets with liquidity in the form of quantitative easing (QE).
As global interest rates remained, for the most part, anchored at historically low levels, much of the fresh QE was used to vacuum up government bonds, prompting steady price increases and a corresponding slump in yield.
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Stock market recovery took a little longer but was no less impressive. Between 20 February and 23 March last year, the FTSE100 index plummeted by 32.8%. Since then, it has risen by 42% although the index has yet to touch the peaks it achieved in both 2018 and 2019.
Nevertheless, strong growth in US and UK stock markets in particular continue to attract a burgeoning number of investors who may have ordinarily cited their age as a primary reason for avoiding them. However, this noticeable shift in investor behaviour is driven by an understandable pursuit of income.
As the return on bonds and cash remain negligible and annuities offer little additional relief from what has become a low-return, fixed-income environment, the once traditional shift towards lower-risk assets executed by investors in or near retirement, which came with the guarantee of a fixed income stream, has come to a juddering halt.
Increasing longevity already meant that average retirees could have another 20 or 30 years ahead of them, the ramifications of which, in terms of income, were beginning to become apparent. The pandemic-induced resurrection of QE has succeeded in pushing asset prices higher while simultaneously reducing returns.
In the mad rush for income, growth or both, residential investment property prices have surged, while the spot price of gold has risen by more than 20% since March 2020.
The handful of speculative types who bought Bitcoin almost 16 months ago would have pocketed a 496% return, although the high-profile cryptocurrency has tumbled by 45% since mid-April 2021.
Meanwhile, the spectre of inflation, at least over the short term, has emerged like an unwanted house guest. Older investors are conscious of the damage inflation can cause and hardly need reminding that even moderate annual inflation of 3% will reduce the real value of their income by almost half over a 20-year period.
The answer to the retirement income quandary is less than clear cut, but anecdotal evidence suggests that many investors are taking a long-term view, starting by visiting websites which calculate how long their pension pot will last.
In addition to accommodating basic information (size of pension pot, income requirements etc), most websites allow users to input variables such as their preferred annual income uplift, anticipated return on investments, marginal rate of tax and expected level of inflation etc.
The results can be startling and certainly confirm that the old 4% rule of thumb, which suggested that drawing 4% of your pension every year would ensure your pot lasted a lifetime, has been consigned to the investment dustbin.
Yet all is not lost. There are dozens of well-managed funds, such as the Fidelity Global Dividend Fund and the BMO Responsible UK Income Fund, capable of generating steady, though modest, returns without taking on ridiculous levels of investment risk.
Realistic investors, who appreciate that annual net returns of around 3.5% should prove sufficient over the longer term, may also conclude that having their calculations confirmed by a finance professional makes enormous sense.
THE WEEK IN NUMBERS
- 10,000 - Ubiquitous, everything company Amazon has recruited more than 10,000 new workers during the pandemic. The company’s new chief executive, Andy Jassy, announced this week that among his burgeoning ‘to do’ list is a commitment to making them all happy.
- £1,360,000 - Talking of ubiquitous, footballer-turned-presenter Gary Lineker took a £400,000 pay cut last year. However, the BBC’s highest-paid individual still picked up a handy £1,360,000.
- 11 - Congratulations to Laurent Simons, the Dutch / Belgian young man who completed his bachelor’s degree (with distinction) at the University of Antwerp this week. Incredibly, the course took him just 18 months. Even more incredible is the fact that Master Simons is just 11 years old.