A growing number of solutions target specific risks, but the onus is on advisers to combine them
Planning clients’ income in retirement can be one of the most difficult tasks advisers undertake. The risks have been well documented: falls in portfolio values, client longevity, inflation and sequencing risk, to name just a few.
We have recently looked at the various ways advisers are managing clients’ retirement portfolios, and how providers have been stepping up to deliver solutions to address this market post-pension freedoms.
Advisers employ different strategies for different clients and, in many cases, will use a combination.
A clear majority of advisers are keeping clients invested in mixed asset portfolios, from which they draw both income and capital.
Advisers balance sustainable withdrawal rates with portfolio risk and estimates of client longevity – all of which will need regular reviewing to ensure that investments remain on track.
Some advisers are managing these portfolios themselves and many are using the same investment strategies that they implement for clients in accumulation.
Smoothed strategies have also picked up significant traction, especially Prudential’s PruFunds and Royal London’s Governed Retirement Income Portfolios.
Platforms and discretionary managers have also brought to market some new model portfolio solutions specifically to solve the decumulation conundrum.
Examples include Parmenion’s Guardian portfolios and Copia’s Retirement Income range.
Half of the adviser market tells us they recommend bucketing strategies for their clients. This typically consists of two or three investment pots covering short-, medium- and long-term needs.
Having three distinct portfolios is unlikely to result in an efficient overarching portfolio – like someone holding expensive credit card debt while £1,000 just sits in a savings account for their next holiday. However, bucketing is appealing from a mental accounting perspective and clients understand the concept, potentially then appreciating some of the risks involved in decumulation and hopefully reining in spending if portfolios fall.
We see potential for more providers to launch solutions that fit within advisers’ bucketing strategies and model portfolios that manage allocation between them.
Brooks Macdonald’s Decumulation Service wraps up a bucketing strategy into a portfolio, using a mixture of cash and structured products to deliver short-term income needs and a growth portfolio for the longer term.
We have also spoken to asset managers working on products that fit within buckets. These could be growth strategies for long-term needs, as well as low-risk portfolios for the short term that do not have the same drag effect of cash.
Annuities still appear in advisers’ planning, with two thirds saying they have used them in the past year. They tend to be recommended for smaller portfolios, where drawdown is uneconomic, or as a relatively small blended element of a larger portfolio, or to provide some dependable core income alongside the state pension or defined benefits.
In-pension annuities are relatively new, with Novia recently launching one with Just Group, and Canada Life offering one through The Retirement Account. Both enable annuity income to be retained in the pension fund. The client can then choose to draw or accumulate the annuity income, providing them with additional tax flexibility.
Advisers also tend to recommend clients keep significant amounts of portfolios in cash – even those who do not operate a formal bucketing strategy.
This typically involves setting aside two years of clients’ income needs. However, we generally do not find advisers being very formal or prescriptive about how this cash fund is ultimately used. In most instances, advisers claim that clients hold the cash as an income reserve for times when markets decline, but then it turns out they actually use it for their day-to-day spending.
An increasing number of “solutions” target specific risks that clients face with their decumulation portfolios, but the onus is on advisers to combine them to build a sustainable income stream.
DB pension schemes and life companies that sell annuities pool their liabilities to mitigate risk.
Advisers’ clients are typically more exposed, relying on individual defined contribution pensions and other savings.
Whatever the investment or income strategy advisers use, clients must be helped to understand the implications. Sequencing risk is a key example. If clients understand the risk of taking too much out when markets are down – especially in the early years of a drawdown programme – they should be less likely to do permanent damage to portfolios. Pension freedoms work both ways: freedom for clients to take money when desired, but also reduce withdrawals when required.
Richard Bradley is research director at Platforum