CENTRALISED INVESTMENT RETIREMENT PROPOSITIONS – MANAGING THE INVESTMENT CHALLENGES OF DECUMULATION

Financial Advisory

John Hall

Advisory DistributorsFinancial AdvisoryPensions freedomsRetirement

Introduction

This roundtable was run across two sessions with lively input from participants in both. The key talking point was to consider the challenges of advising clients in retirement and, in particular, to discuss how advisers are thinking about managing the investment risks this involves.

 

The expert leading this roundtable session gave an upbeat presentation on the opportunity retirement presents for advisers. Pension freedom has already created a significant opportunity for advisers, but the best is yet to come:

 

  • The 2020s will see the largest proportion of baby boomers hitting their 60s.
  • In 2020, half of the UK population will be over 50 and in 15 years’ time a quarter of the population will be over 65.
  • There will be around £1 trillion of assets passed between generations.

 

Against this positive backdrop though, retirement advice is complex. Clients have multiple goals and successful retirement planning needs to deal with significant uncertainty around future needs, life expectancy and investment performance. On top of this there are inevitable regulatory challenges from PROD and a general pressure on advisers to demonstrate they are adding value.

 

Aberdeen Standard Investments’ team concluded with a look at retirement investment risks, particularly sequencing risk and “pound cost ravaging” and considered some of the approaches advisers might follow:

 

  • Natural income – avoids sequencing and ravaging risk but income is uncertain.
  • Asset harvesting/”bucket” approach – mitigates risks but can be challenging to administer.
  • Volatility managed – has potential to avoid sequencing risk and mitigate raging risk but can involve more complex investments.

 

Key themes from the discussion

 

Client expectations and adviser understanding:

  • Clients often do not have realistic expectations of what can be achieved in retirement and this makes advice more difficult. Clients are understandably risk averse but need to take on risk in order to create sustainable income. The challenge for advisers is explaining not just the basic concepts of risk but the more subtle complexities of retirement risk such as sequencing risk. Good advice should ensure that clients have an early understanding of what is achievable so that, when it comes, retirement is not a shock.
  • There was a concern that many advisers, particularly those in smaller firms, don’t fully understand these concepts. Currently benign markets have also perhaps meant that the impact of these risks is not being fully appreciated and that a significant market correction could highlight shortcomings in some of the advice being given.
  • Most participants were using cashflow modelling and scenario analysis to help frame client expectations. However, many use these behind the scenes rather than exposing clients to the full complexity of these models.

 

Use of centralised retirement propositions:

  • Most of the firms represented had implemented some form of centralised retirement proposition. In particular, most agreed that retirement required a different investment proposition from accumulation. A useful analogy was that not having different investment approaches was like trying to use the same engine in both an SUV and a Formula 1 car!
  • There were concerns though that having too rigid an approach could make it difficult to adapt advice to individual client circumstances and stop advisers from “thinking outside the box”. One large firm has taken a radical approach of centralising the formulation of advice to ensure consistency across their advisers and to reduce regulatory risk.

 

Investment approaches:

  • Unsurprisingly, there was no real consensus on investment approach and many participants said they would use different approaches in different circumstances. Natural income was not realistic for many clients and there was a concern that generating sufficient income could involve focusing on a narrower range of riskier investments.
  • There was a lively discussion around volatility-managed investments and, in particular, whether smoothed return funds really delivered protection against retirement risks. While these products appear to avoid sequencing and ravaging risks, some felt that advisers using these solutions were perhaps being naïve about how these products work and the true costs of the limited protection provided.
  • Some saw a role for structured products but suggested the distribution risk involved in using these made it difficult to recommend them.
  • There was agreement that advisers retain responsibility for managing retirement risks when using DFMs. However, there is a danger that some advisers aren’t setting the mandate for DFMs but instead accepting what the DFM is offering.

 

Platforms and asset managers:

  • Generally, participants felt that platforms were delivering what was needed for them to manage retirement income.
  • There was a concern that many asset managers don’t really understand financial planning and were too focused on pushing their own solutions. Advisers wanted more support from asset managers in understanding how their products worked not just in an investment context but in supporting retirement planning goals.

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