In a previous blog, posted last month, we highlighted the unprecedented use of the word unprecedented. We know the readership of our content is both deep and wide-ranging [ahem…] so we are justifiably disappointed that the world appears to have paid little attention to our ironic expose of this trend. We keenly wait for a day to pass where this word isn’t used to blithely caveat and contextualise every discussion and piece of analysis. As such we will try and lead the way and banish it from this incisive investigation of planning for a defined contribution funded retirement in the post Covid era – a worthy challenge indeed.,
The world has changed, from our narrow and privileged first world perspective, beyond recognition. Our international holiday plans have been kyboshed for the foreseeable future. We do not have a continuous, uninterrupted stream of world class live sport to watch. We can’t go to the pub. If these horrors weren’t enough; the way in which we work, shop and socialise have also all been turned on their head. Sadly, some are facing the spectre of an indefinite period of furlough and potential medium-term unemployment. Far worse than even that, hundreds of thousands of people have lost their lives globally.
The debate, which began in early March and which continues to rage, has been the extent to which this change will be permanent. Early analysis focussed on ‘V’ shaped recovery profiles, predicated by assumptions on the inherent transience of a pandemic (rather than a shock caused by market driven factors). If core fundamentals are sound, then the speed of recovery will match the rate of decline – right...? Highly unlikely: It would be fair to say that the consensus view has moved on now. So how about ‘U’ shaped GDP forecasts? These accept that the pandemic will cause some structural damage to economies and a sustained recession but once again, that the inherent strength of supply and demand will lead to a strong bounce back. Not so farfetched for sure. If you believe in the super-forecasting abilities of Roubini (and why wouldn’t you?), an ‘L’ shaped depression is now sadly inevitable. Dr Doom believes that the damage to the real economy will be indelible, lasting and with an anaemic recovery stretched out over the next decade. Too pessimistic? Probably.
Clearly, nobody really knows which, if any, of these predictions will prove to be most accurate. However, it would be foolish not to expect significant and lasting change to both our economies and our societies in general. What does this all mean for our retirement plans? For those of us who’s jobs and livelihoods are directly imperilled by the crisis, a brass-tacks evaluation of the likely path for our specific roles and industries will of course be imperative. For example, those working in the service sector and in the cultural economy, existential concerns are likely to be paramount and pension planning is likely to be a second order priority. For those of us fortunate enough to come out of the other side (relatively) unscathed we should directly assess the impact of Covid on our retirement plans – such will be its direct impact. As individuals, we frame our retirement by our age and where we consider ourselves to be in our life journey at that moment in time. We need to generalise here so let’s consider the three broadly accepted stages in turn; accumulation, at-retirement and decumulation.
As the name suggests, accumulation is the phase in which we grow our pension assets in order to provide us with our desired lifestyle in retirement. Early to mid-way through this phase, we are generally advised to maximise our risk appetite owing to long time horizons and the generally held axiom of positive risky asset growth over such a timeframe. Covid-19 has heralded a period of extreme volatility in asset valuations which has no doubt caused disquiet for those in DC schemes. As accumulators, however, we should have the broadest shoulders to ride out short and even medium-term volatility. With a decade or more until crystallisation, we should certainly remain calm amongst the turmoil, avoiding knee-jerk decisions where possible. In the 20-30 years most of us will accumulate pension assets, we will have to endure many financial crises and economic downturns. The salient action for us now is to question locked in asset allocation approaches, which won’t flex to accommodate C-19 paradigm change. Some industries, previously considered low beta safe havens, will likely be paralysed for many years to come. Others, previously considered to be high beta outliers, will thrive. Your investment toolkit should calibrate seamlessly into this developing reality.
As we approach retirement, our focus tends to shift to protecting what we’ve built up. This at-retirement phase is often characterised by ‘lifestyling’. In lay terms this process involves switching from more risky assets, like shares and commodities to less risky ones, like cash and bonds. Risky asset price volatility is therefore clearly not our friend if we are forced sellers in distressed markets. Trying to optimise the timing of switches, when weekly prices can move +/- 10%, is a feat that would strike fear into the heart of the saltiest professional asset manager. If we wait for calmer times to return, do we gamble on a recovery that may not materialise concordant to our needs? For the reasons outlined in our preamble, these are treacherous considerations – to which the unfortunate conclusion is that there are no simple answers. Pension plans we’ve made should ideally accommodate the possibility of such tail events and offer guidance on contingency steps we can now take. Some flexibility, both with respect to outcomes and how we can deliver them will likely be mandatory for those in the at-retirement phase.
Decumulation is where we enjoy the fruits of our hard work. In the UK since 2015, we’ve enjoyed greater freedom with respect to how we manage our pension assets in decumulation. Notwithstanding this, annuitisation remains one option on the table. Yield curves are collapsing around the developed world and we’re seeing negative rates at the short and medium ends of the curve. Does this rule annuitisation out completely as a viable option for us? No, not necessarily. Annuities rates differ from person to person and the emergence of coronavirus impacts longevity assumptions for those with certain pre-existing co-morbidities. Still, other options like drawdown may now appear more marginally attractive. The flexibility of drawdown provides options to Decumulators facing Covid uncertainties. Tax free allowances can be deferred, and cash flow models can be drawn up to dynamically flex income to our changing needs. Remaining invested could well be key, so drawdown or delaying crystallisation entirely are worthy of consideration. This is complex and highly personal calculus and the value of high-quality advice and guidance will quite literally pay dividends for us as we look to live our best lives in retirement.
For house-keeping purposes, we should quickly shout out to defined benefit scheme-holders at this point. Whilst personally insulated from most of these concerns, rest assured at the scheme level your portfolio managers are certainly grappling with them. In particular, the paucity of fixed income options will be a material concern. Nonetheless, the certainty offered by an inflation-proofed final or average salary pension is an enviable position to enjoy right now. Perhaps Covid will herald a permanent end to the inherently questionable and often scandalous practise of DB transfers. Too much pain and suffering has been caused by bad actors in this space in recent years – good riddance and begone!
Covid has disrupted our retirement planning, in much the same way as it’s disrupted the rest of our lives. Those of us at-retirement are probably facing the most intractable issues but regardless of the point we are in our pensions journey, some serious re-planning will be necessary. We should arm ourselves with the best tools, guidance and advice as we re-position ourselves for the future. In the post Covid world, flexibility as we’ve demonstrated in how we live and work, will need to be applied to our retirement plans too.